According to attorneys Gabor Garai and Susan Pravda, one year after an IPO is a perfect time for the Board to take stock of itself and the company's future. Here are twelve issues the Board should be examining.
The ongoing transformation that is critical to today's organizations is especially important for newly public companies and their boards. The growth opportunities afforded by an IPO are balanced by unrelenting shareholder mandates-necessitating continued objective evaluation of management contributions, market positioning, investor relationships and future financial goals. One year after an IPO is the right time to take stock and ensure that your board, senior staff, investor communications and general operations will maximize your firm's increased potential for industry leadership. It is also the right time to evaluate whether remaining publicly held is the best strategy for your firm's ongoing success.
Following are guidelines corporate directors should follow to ensure that they are poised for what is ahead.
1. Reassess your board. Director resignations are common after the first year, as are board decisions to restructure. For instance, initial boards frequently consist of venture capital firm partners who provide essential equity prior to a public offering, realize an early return on their investment and then resign to assist other emerging firms. Boards may also need to replace directors who cannot respond flexibly to shareholder expectations within a particular market-especially if they are used to leading within a different industry with unique strategies for success. In addition, boards may have to accept the loss of more entrepreneurial directors who find their new public exposure and shareholder accountability too restrictive.
The best replacements for these directors are individuals who have successfully converted entrepreneurial companies to publicly oriented firms and led them to new levels of sophistication. Corporate boards should seek leaders who are seasoned at dealing with the capital markets, investor relations, SEC responses and stock-based transactions for growth. Avoid recruiting "interlocking directors" from the same global industry, and capitalize on motivations for membership that compensate for low director pay and increased personal liability. Seek highly qualified leaders who will value the satisfaction of growing a company, benchmarking with fellow visionaries and increasing their association with today's "hottest" firms and products.
2. Evaluate your individual committees. Consider re-electing your audit and compensation committees on an annual basis according to several key criteria. Evaluate audit committee members according to whether they have operated properly and seriously. Have they met regularly, and have all members attended? Who has been signing their reports? Are committee members making required disclosures on annual proxy statements, and are these disclosures thorough?
Are compensation committee members' policies consistent with overall board philosophy? How do they determine executive compensation? Is it sufficiently tied to executives' performance and overall commitment to their jobs?
3. Check on the adequacy of your D & O insurance. Companies that have been public for 12 months can generally increase the amount and scope of their coverage, and should do so as a rule of thumb.
4. Evaluate the frequency and content of board meetings. Do they provide board members with a detailed understanding of management objectives and significant operational concerns? Do directors have sufficient data to speculate on future prospects and identify trouble spots? Be careful if you suspect that management is not being forthcoming about all the issues facing your organization. Since you, as a director, shoulder substantial liability to shareholders, it is essential that you take the responsibility to fully address significant issues in an orderly and proper manner. Matters as diverse as new accounting pronouncements, changes in the treatment of options and implementation of modified sexual harassment policies all have significant legal implications for individual directors, and should be carefully investigated and understood.
5. Avoid backlash from the Dribble Out Rule. Anxiety over a potentially sudden and irreversible decrease in stock prices hangs over every board like Damocles' Sword, and is engendered in part by SEC Rule 144. This regulation-also known as the Dribble Out Rule-enables shareholders who own unregistered shares to sell up to one percent every quarter. Generally, shareholders are relieved from their "underwriter lockup" 180 days after an IPO and can then sell a limited amount of their securities under Rule 144. The resulting activity can open the gates for disaster. On a quarterly basis, controlling shareholders-such as initial investors and key executives with attractive option packages-are free to dump and sell their shares without order. In a situation where a company does not have sufficient "float," this action alone can permanently depress the value of its shares.
The best way to avoid this potential disaster is to encourage key shareholders to sell a substantial portion of their shares in a planned and strategic way, and in conjunction with an underwriter and an investor road show. Demonstrate to investors that this strategy can increase share value by showcasing your company's achievements since its IPO, broadening the company's marketplace appeal, attracting new investors, and eliminating the overhanging threat of "disordered" trading. Show founders that the strategy will bring them piece of mind by enabling them to liquidate shares at optimum prices, diversify their holdings, eliminate worries over Dribble Out backlash, and build a nest egg of cash to protect them from expected fluctuations in the value of their stock.
6. Consider other reasons for subsequent offerings. One year after a public offering may be the right time to offer a large portion of your company's still-restricted shares for other reasons, as well. This strategy is often effective for increasing trades, engendering a more stable long-term market for your company's stock, and improving the potential success of future public offerings.
Your board should consider whether the current market is right for an immediate second offering. If your company is part of a "hot market," you should be evaluating such an offering in order to reap the most value from your stock during a period of peak investor interest. Take care, however, to keep your multiples high so that the offering does not dilute your earnings.
Second offerings made after a year of public trading are more affordable than initial offerings, making them even more worthy of consideration during narrow windows of opportunity. By the one-year benchmark, companies can register for an offering using an S-3 wraparound form, rather than the Form S-1 required for an IPO. Since the SEC does not generally review Form S-3, firms are not subject to 30-day waiting periods and associated compliance costs.
7. Evaluate the success of your investor relations initiatives. How your company is faring in the stock market rests largely on whether the individuals dealing with investors are inspiring their confidence. In fact, investor communications often determine shareholder value more than actual corporate performance does. As a board member, you should be determining whether your firm has an investor relations policy that has been thoughtfully developed by experienced professionals, and that is being implemented as intended by the appropriate executives.
Consider hiring an investor relations firm or an in-house director of investor relations to maximize the success of your ongoing communications. Alternatively or in addition, determine how much time your president and CFO are devoting to investor relations and whether they are successful "ambassadors." If so, weigh the possibility of assigning some of their other responsibilities to your COO or vice presidents to free them to increase their investor communications.
8. Plan future financial reporting. By the one-year benchmark, your firm will be releasing its first annual report and will have developed a plan for periodic reporting, including financial controls and review processes. As a director, you should ensure that reporting systems are functioning properly, and that adequate attention is being given to compliance with "safe harbor" and other SEC regulations in all written and oral reports, projections, marketing communications and investor relations activities. Be aware that the SEC randomly reviews the filings of corporations after they have been public for a year or more.
9. Heed difficult stockholder mandates. Fiduciary and practical obligations to public shareholders may force hard decisions-such as dismissal of your current president, or transfer of his/her shareholder relations functions to your CFO. Your board's objective is to seek and reward leadership that keeps shareholder value at a premium, and to replace those executives who do not. For instance, a president who had the vision, fortitude and charisma to lead your company toward an IPO may not be the appropriate individual to continue managing your firm once it's publicly held. Because of this particular situation, it is important that you stress to key executives that they are ultimately accountable to you, rather than to the president.
10. Monitor employee issues. Make sure that management is incentivizing and retaining the employees who have moved your company forward. Frequently, these individuals seek the stimulation of bringing other emerging companies to the IPO stage-especially if they can gain equity at founder prices. Query senior management about employee morale levels and strategies for rewarding and retaining key contributors. Monitor turnover rates and other signs of trouble before they lead to decreases in the value of your shares.
11. Look at your overall financial situation. Many companies are disappointed in their performance after 12 months of public trading. It is not unusual for companies' perceived value and image to be tarnished by a fickle market. Gear your ongoing organizational transformation to the market's present perception of your firm, and your own sense of the initiatives that could turn those perceptions around.
12. Was an IPO the right decision? After a year of being publicly traded, many companies wish they had never gone public. They may face a market that has chilled or find it impossible to manage on a quarterly basis. The value of their stock may be far below their expectations, but the concept of returning to private ownership may be embarrassing and demoralizing.
If your board is more concerned with improving share values than with going private, a viable alternative is an acquisition or a merger to raise shareholder value. A benefit of your firm's public status-and a key reason for many companies' IPOs-is the ability to use public stock as currency for an acquisition. If the acquisition has not worked out, it may signal that the market does not understand or embrace your business' long-term strategy, and that you need to rethink both your positioning and your investor communications.
Alternatively, your firm could buy back its stock. However, your board should be aware that the SEC heavily scrutinizes such actions as potential indicators of investor fraud. SEC regulations provide that there be a respectful distance between taking a company public and returning to private status, and boards should be scrupulous about complying.
The year following an IPO provides a baseline for determining the resources necessary for continued leadership and expansion. It is also a useful period for proving your potential to the investment community, and capitalizing on early successes to gain new venture funding. Boards that turn their attention to these objectives are well-positioned to reap the resulting benefits.
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