Why Do Companies Go Public? How IPOs Work

In this article we discuss:

• What Is an IPO?
• Why Does a Company Go Public?
• How Does an IPO Work?

It's been a quiet two years for initial public offerings (IPOs) and 2024 is shaping up to be no different. During the pandemic bull market-which saw the number of IPOs in the U.S. grow 346% from 230 in 2019, to 1,035 in 2021-going public was a priority for almost every rapidly growing private company. So what changed, and what motivates companies to go public in the current climate?

Looking beyond the U.S. to global numbers, in 2022 there were only 1,671 IPOs launched, compared to 3,260 in 2021. High inflation, high interest rates, and economic uncertainty resulted in many companies delaying their debuts. Two years later, the 2024 IPO market remains cautious across the world. Despite several successful openings-Reddit, a U.S. social news platform, made major waves in March-the question remains: Is now the right time to go public?

As the economy continues to recover, that question will become more and more pertinent. Whether you're a small business or medium enterprise, early preparation will be the key to success. The first step? Ensuring your leadership is aware of how an IPO works and what it takes to go public.

What Is an IPO?

An initial public offering, or IPO, is when a private company sells its shares to the public for the first time. This process is also referred to as "going public," a "stock launch," or as "floating."

Before listing themselves on a public stock exchange, corporations can only raise capital through private investors. An IPO represents an opportunity to raise large amounts of money from new shareholders while (typically) retaining majority ownership. It also provides an exit strategy for founders and long-term investors to recoup their initial investment.

Why Does a Company Go Public?

For many small and medium-size businesses, going public is a major aspiration. But what are the main factors that motivate organizations to undertake an IPO? And why are so many businesses choosing not to go public in the current economic climate? Let's run through the major advantages and disadvantages of becoming a public company.

Advantages of an IPO

The primary reason most companies undertake an IPO is capital. By selling shares of the company to the public for cash, organizations can fund all manner of operations such as mergers and acquisitions, internal research and development, general capital expenditure, and the payoff of existing loans. These new public shareholders can include individual and institutional investors.

The pandemic bull market saw the number of IPOs in the U.S. grow 346% from 230 in 2019, to 1,035 in 2021.

For many early investors, a company going public marks the end of their involvement. Far from a negative, this is a natural part of a company's transition from one lifecycle to another. For serial entrepreneurs looking to fund new ventures, selling IPO shares frees up much-needed finances. Meanwhile, other investors may want to sell a smaller chunk of their stake in order to expand their portfolio.

An IPO is also an opportunity for a company to develop its brand image and public standing. The number of shares a company sells and the share price are often considered newsworthy. A successful IPO with a high valuation can solidify an organization's position as a market leader, increasing stature and visibility.

Disadvantages of an IPO

There are also potential disadvantages of going public-hence the caution in the current marketplace. The process of going public (explained below) is a long one, requiring a large commitment of resources and time. The legal, marketing, and accounting costs that arise can put off all but the most successful private companies.

In addition, company stock prices can be highly variable, especially during a period of economic uncertainty. Managing shareholder expectations about stock prices can often distract from other operational priorities and overall revenue.

Once a business becomes publicly traded, it also has to follow different rules and regulations. That means regularly disclosing financial data while also updating shareholders with results on a biannual basis. This level of transparency can cause companies to lose the edge they held over their competitors.

How Does an IPO Work?

Part of the reason for the slowdown in companies going public is that the IPO process is rarely an easy one. Going public involves multiple stages and additional parties, including investment bankers, the securities and exchange commission (or local equivalent), and institutional investors. It also exposes a business to much more scrutiny from the public and government agencies. That's why proper preparation is critical.

For small and medium enterprises, it's never too early to start thinking about a strategy for going public. Here are the three steps an organization must go through in order to successfully go public:

1. Pre-IPO Planning

Private companies should never make the decision to go public hastily. Pre-IPO planning should begin one to two years before the intended launch date, at a point where the company has strong financials and solid leadership. The following steps are essential in ensuring a business is truly ready to file an IPO:

• Establish an internal IPO team to oversee the project from start to finish
• Develop a multistage IPO strategy and align the management team on key goals and timelines
• Select an underwriter, such as an investment bank, to consult on every aspect of the IPO process
• Build the correct IT infrastructure to ensure IPO readiness and future growth

Part of the reason for the slowdown in companies going public is that the IPO process is rarely an easy one.

2. IPO Readiness

Once an organization has formalized its strategy, it's time to get its documentation in order. Without proper adherence to reporting, accounting, and regulatory standards for public companies, many IPOs can fall at the first hurdle. Here are the key steps for ensuring proper IPO readiness ahead of launching on the public market:

Formalize your corporate governance framework and prepare public company policies

Begin completing the due diligence checklist to ensure compliance

Create marketing and presentation materials for potential analysts and investors

3. IPO Execution

Executing an IPO isn't as simple as flipping a switch on the stock market. While publicly trading is the end goal, there are multiple steps an organization must go through first-and after. Above all else, regular communication with investors (new and old) is critical. The final stage of going public involves these steps:

• Apply for regulator approval and admission to a stock exchange
• Determine and set the initial share price with the underwriter
• Distribute company shares to existing investors and list the stock on an exchange
• Manage investor expectations through efficient forecasting and reporting

Getting Ready to IPO

The road to trading on Wall Street or the London Stock Exchange is a long one, so proper planning is essential. With capital markets remaining unpredictable, early IPO readiness is ever-more crucial for IPO candidates. Having a trusted partner on that journey can be the difference between success and failure.

According to an MGI Transformation Excellence Report, more than 50% of organizations fail to meet their original objective when undergoing a major transformation. The key challenge of an IPO is the transition to operating in full view of the public with a much larger, more diverse base of customers and employees. Implementing the right technology is integral to reducing complexity and controllable costs, controlling risks, and supporting your employees.

Workday gives us all the data we need to make the most of our human capital and helps with important and complex processes such as performance assessment and talent development.

Vera SenzotteraHead of HR Tech & Talent AcquisitionIllimity Bank S.p.A

Workday adds value to companies preparing for an IPO in three key ways:

1. Completing due diligence more efficiently
2. Reducing compliance risks with accurate unified data
3. Enhancing investor confidence and market value

With the AI-first platform for finance and HR from Workday, you can transform how you manage your people and your money. Unified data across finance and HR provides organizations with the ability to drive better business processes, make more strategic decisions, and prepare for organizational growth. That's how software company Kainos was able to cut the time taken for external audits in half and reduce manually entered invoices from 50% to 15%.

With extensive experience in helping businesses get up and running fast, Workday can help you grow without limits. In fact, SMEs account for more than 75% of our customer base. To learn how Workday can help, whether you're going public in five months or five years, learn more here.