Theoretically, the principles of financial management that we have developed throughout this book find their full expression in the share price of the company. They apply to unlisted companies as well, but for a listed company, market approval or disapproval – expressed through the share price – is immediate. Being listed enables companies to access capital markets and have a direct understanding of the market value of their companies.

Being listed enables a company to raise funds in a few weeks or even a few days because:

• financial analysts periodically publish studies reviewing company fundamentals, reinforcing the market's efficiency;
• listing on an organised market enables financial managers to “sell” the company in the form of securities that are bought and sold solely as a function of profitability and risk. Poor management is punished by poor share price performance or worse – from management's point of view – by a takeover offer which leads to a change in management;
• listed companies must publish up-to-date financial information and file an annual report (or equivalent) with the market authority.

We refer the reader interested in the reasons for an IPO to Section 42.2 where we discuss this topic.

Section 44.1 PREPARATION OF AN IPO

It usually takes at least six months between the time the shareholders decide to list a company and the first trading in its shares.

This six-month period provides an opportunity for management to revisit some financial decisions made in the past that were appropriate for an unlisted, family-owned company or for a wholly owned subsidiary of a group, but which would not be suitable for a listed company with minority shareholders, such as:

• preparing accounts in line with accounting standards required for listed companies which may be different from the ones used by private companies, and introduce reporting procedures that cover the whole of the entity to be listed;
• reviewing the group's legal structure in order to ensure that vital assets (brands, patents, customer portfolios, etc.) are fully owned by the group and that the group's legal form and articles of association are compatible with listing (no simplified joint-stock companies and no pre-emptive rights or special agreements in the articles);
• reviewing the group's operating structure, ensuring that it is an independent group with its own means of functioning and that it does not retain the structure of a division of a group or a family-run business (terminate employment contracts with non-operational family members, take out necessary insurance policies, draw up management agreements, etc.);
• drawing up a shareholders' agreement if needed (see Chapter 41);
• introducing corporate governance appropriate for a listed company (independent directors, control procedures, board of director committees, etc. – see Chapter 43);
• reviewing the company's financial structure in order to ensure that it is similar to that of other listed companies in the same sector. This applies particularly to companies under LBO, which will have to partially deleverage via a share issue, at the latest at the time of listing;
• adopting a well-thought-out dividend policy that is sustainable over the long term and that will not compromise the group's development (see Chapter 36);
• introducing a scheme for providing employees with access to the company's shares through the allocation of free shares and/or stock options, etc. (see Chapter 42);
• defining the company strategy in a form that is simple and easy to communicate, which will become the equity story to be told to the market at the time of listing.

From the start of this phase, the company should seek the assistance of an investment bank, which will act as a link between the company and the market. The company will also have to retain the services of a law firm, an accounting firm and possibly a PR agency.

The overall cost of the IPO is between €0.5m and €1m in fixed costs (lawyers, communications agency, roadshows) plus between 5% and 7% of funds raised as fees for the bank syndicate.

Even with this help, the management team will have a very heavy overload of work during these six months because the operational side will not have to be sacrificed for all that!

Section 44.2 EXECUTION OF THE IPO

Section 44.4 UNDERPRICING OF IPOS

If statistics are to be believed, the share price of a newly floated company generally – but there are a number of exceptions – sees a small rise over the IPO price in the days following flotation (see Section 25.2). It would also appear that this discount at which shares are sold or issued at the time of an IPO is volatile over time, compared with an equilibrium value – high in the 1960s, lower in the 1970s to 1980s, and then high again in the 2000s before dropping in recent years. Following research, many different explanations for this discount have been put forward. The main ones are:

• This underpricing is theoretically due to the asymmetry of information between the seller and the investors or intermediaries. The former has more information on the company's prospects, while the latter have a good idea of market demand. A deal is therefore possible, but price is paramount.
• Signal theory says that the sale of shares by the shareholders is a negative signal, so the seller has to “leave some money on the table” in return for ensuring that the IPO goes off smoothly and to investors' satisfaction.
• Asymmetrical information amongst the different investors. “Informed” investors will only be interested in good deals and will not be tempted by overvalued IPOs. Less well-informed investors, who will thus be involved in all financings, will find that they are better served in unattractive operations. They will not be as present on more attractive deals. In seeking to retain all the investors who provide valuable and necessary liquidity to the market, IPOs are carried out at a discount.
• There are some who argue (not very convincingly) that underpricing can limit the risk of legal disputes with investors who would feel as if they had been swindled because they'd made a bad investment.

Section 44.5 HOW TO CARRY OUT A SUCCESSFUL IPO

The fact that a number of IPOs are cancelled or postponed (2018–2020 has seen, amongst others, tech start-ups WeWork and Airbnb in the USA, petrochemical company Sibur in Russia) shows that this is a tricky process and that success is not always guaranteed.

A successful IPO is the combination of a number of factors:

• the intrinsic quality of the company: market share, growth and clarity of the activity, management experience, capital structure, should not be unusual, etc. These factors are assessed on the basis of comparable companies that are already listed, since the listing of the company is offering a new choice to investors within the same investment universe;
• a clear and convincing explanation of the sellers' motivations, as the market will always fear that they are selling their shares because their best results have already been achieved. This is why a flotation through a share issue for financing investments is preferable to the sale of shares (signalling theory);
• agreement on the price, which is much easier to achieve when the stock markets are performing well, and very difficult to achieve when they are performing badly. This is the most frequent reason for cancelling an IPO.

From a tactical point of view, and when the stock markets are performing badly, marketing is crucial. Readers, who have been aware since Chapter 1 that a good financial director is first and foremost a good marketing manager, will not be surprised! Marketing involves:

• familiarising investors with the stock market candidate a few months before the roadshows themselves begin, through informal meetings (pilot fishing);
• entry into the company's capital by investors seen as cornerstone investors a few weeks before the IPO when the regulations allow this, or during the IPO but with a guaranteed allocation, which will encourage other investors to follow suit. This is particularly prevalent in Asia. Thus, Thailand's largest retailer, Central Retail Corp, welcomed Singapore sovereign wealth fund GIC and funds run by Capital Research Management as international cornerstone investors backing its IPO in January 2020; an anchor investor is an institutional investor placing a large order in the order book, thereby acting as a valuation driving force. The Monetary Authority of Singapore acted as an anchor investor in the March 2020 IPO of SBI Cards.
• tight management of communication over the envisaged price. For example, Glencore let it be known that it was considering a flotation of over $60bn and when a lower price was announced, this was perceived as good news. This is called behavioural finance! It is true that the difficulty of valuing this complex group made this manoeuvre much easier;
• a price seen as lower than the equilibrium value, enabling investors to hope for capital gains after a few months. For example, Shurgard fixed its IPO price at the bottom of the indicative bracket. Seven days after listing, the share price stabilised at 13% above the IPO price.

Sometimes the market is a buyers' market, and these buyers do not hesitate to twist the arm of investors seeking liquidity. It is just as well to be aware of this and not try to play another game if you want to list a company on the stock exchange.

The first days of listing are crucial, because starting a stock market career with a share price that is lower than the IPO price (Uber in May 2019) does not make a very good impression on investors. On the other hand, slightly undervaluing the share when it is listed means that the price will rise by a few percentage points during its first days of listing. This puts everybody in a good mood!

Finally, in the long term the company and its managers will have to learn to live with daily constraints on their behaviour imposed by the periodical distribution of financial information, by managing earnings so as not to disappoint investors and thereby risk lower levels of investment than an unlisted company might face, and because they will be taking fewer risks in general. Furthermore, all shareholders must be treated equally, and managers are going to have to get used to the value of the company being published every day; sometimes this value will be low even though results are good. This can have an impact on the morale of employees and on shareholders' assets, and it could lead to a change of control in the event of major changes in the capital structure.

That's just life on the stock exchange!

Section 44.6 PUBLIC TO PRIVATE

A company (or the shareholders) will first start considering a public-to-private move when the reasons why it decided to list its shares in the first place, for the most part, become irrelevant. It has to weigh the cost of listing – direct costs: stock exchange fees, publication of annual reports, meetings with analysts, employment of investor relations staff; and indirect costs: requirement to disclose more information to the public and to competitors, market influence on strategy, management's time spent talking to the market, etc. – against the benefits of listing when deciding whether the company should remain listed or not. This is especially the case if:

• the company no longer needs large amounts of outside equity and can self-finance future financing requirements. The company no longer has any ambition to raise capital on the market or to pay for acquisitions in shares;
• the stock exchange no longer provides minority shareholders with sufficient liquidity (which is often rapidly the case for smaller companies which only really benefit from liquidity at the time of their IPO). Listing then becomes a theoretical issue and institutional investors lose interest in the share;
• the annual cost of the listing (starting at €200k for a small company and running into millions for larger ones) has become too expensive in comparison with the benefits;
• the company no longer needs the stock exchange in order to increase awareness of its products or services.

The second type of reason why companies delist is financial. Large shareholders, whether majority shareholders or not, may consider that the share price does not reflect the intrinsic value of the company. Turning a problem into an opportunity, such shareholders could offer minority shareholders an exit, thus giving them a larger share of the creation of future value.

The operation can be complex. Indeed, beyond the technical constraints, it will depend on the ability of the majority shareholder to convince the minority shareholders to sell their shares. Alternatively, for companies with dispersed capital, it will be necessary to find a new investor ready to make an offer, usually with recourse to debt. Delisting is possible if the majority shareholder exceeds a threshold, often 90% or 95%, as it is then obliged to acquire the rest of the shares. This is known as a squeeze-out. In practice, this amounts to forcing minority shareholders to sell any outstanding shares. Because this is a form of property expropriation, the price of the operation is analysed very closely by the market regulator. In most countries, a fairness opinion has to be drawn up by an independent, qualified financial expert.

If investors are below the squeeze-out threshold, they first have to launch an offer on the company's shares, hoping to go above the squeeze-out threshold so as to be able to take the company private. This is a P-to-P, public-to-private, deal.

Following a change of control, the new majority shareholder who wishes to hold 100% of the capital of its new subsidiary in order to more easily implement the expected synergies will then have to proceed with a delisting through a squeeze-out.

SUMMARY

QUESTIONS

ANSWERS

BIBLIOGRAPHY