Publicly and Private Owned Corporate Issuers

A corporation can either be regarded as private (unlisted) or public (listed). The following factors determine this classification:

• Issuance of shares.
• Exchange listing and share transfer.
• Registration and disclosure requirements.

1. Issuance of Shares. Public Companies may issue additional shares in the capital markets to raise vast amounts of capital from investors. The investors can then trade among themselves in the secondary market. The shares that can be freely traded by investors in the secondary market are known as free float and are often expressed as a percentage of the total shares outstanding. In contrast, private companies invite investors to purchase their shares through a private placement. This document describes a business, the terms of the offering, and the risks involved in investing in the company. Private securities are typically unregulated. As such, only accredited investors may be invited to purchase the shares. Accredited investors are sophisticated investors whose risk appetite is so high that regulatory oversight and protection are unnecessary. An accredited investor should have a particular level of income (i.e., in the US, $200,000 in income over the past two years or $1 million in the capital) or a certain level of professional experience, such as holding in good standing a Series 7, 65, or 82 licenses.
2. Exchange Listing and Share Ownership Transfer. Typically, the shares of a public company are listed and traded on an exchange ensuring company valuation and transparency. Buyers and sellers transact directly with each other in the secondary market. Each transaction between a buyer and seller causes a change in share price. Such transactions, therefore, can show the changes in the value of companies over time.Moreover, the effect of significant news about a company or the overall economy can affect the value of the shares. A listed public company’s equity (market capitalization) can easily be calculated by multiplying the most recent stock price by the number of shares outstanding. Market capitalization is the theoretical amount an investor would pay to own an entire company. However, the investor must add a premium over market capitalization to woo the shareholders into acquisition.

   In private companies, shares are not listed on an exchange. For this reason, there is no noticeable valuation or price transparency, making it difficult to buy and sell shares. However, if the private company owner wants to sell shares, they will have to find a willing buyer and then agree on the price. Private company shareholders’ investments are locked up either until another company buys the company or when it goes public. However, the potential returns earned from private companies are generally higher than those earned from public companies.

3. Registration and Disclosure Requirements: Public Companies must register with a regulatory authority. This implies that they are subject to greater compliance and reporting requirements. For instance, the Securities and Exchange Commission (SEC) regulates US public companies. Additionally, public companies must disclose certain information that may affect share prices, such as directors’ stock transactions. The disclosed documents are publicized. It is, therefore, easier for investors and analysts to gauge the risks that might affect a company’s business strategy and profit generation or those that might impede the fulfillment of its financial obligations. Private Companies are not subject to the same level of regulatory authority as public companies. Despite that, some pertinent rules, such as filing tax returns and prohibitions against fraud, are still applicable. It is worth knowing that, unlike their public counterparts, private companies have no obligation to disclose certain information to the public. Private companies can willingly disclose important information directly to their investors. This mainly happens when there is an objective to raise capital in the future. They are not required to file documents to a regulatory body.

Going from Private Company to Public Company

A private company can go public through an Initial public offering (IPO), direct listing, or acquisition.

Initial Public Offering (IPO)

In this method, a private company that meets specific listing requirements outlined by the exchange completes an IPO. An IPO involves an investment bank underwriting the sale of new or existing shares. If it goes through, the company becomes public, and thus, its shares are traded on an exchange.

The proceeds from an IPO go to the issuing company, which can then use them to capitalize on other investments.

Direct Listing (DL)

Unlike an IPO, a direct listing does not involve an underwriter, and no new capital is raised. Instead, the company is listed on an exchange, and the existing shareholders sell the shares. A direct listing is beneficial in that it is fast and cost-effective. It is preferred by large and more established companies that have gained recognition.

Acquisition

A private company may go public when acquired by a large public company. Another way is through a unique purpose acquisition company (SPAC). A SPAC is a public company specializing in acquiring an unspecified company in the future; thus, it is mainly called a “blank check” company.

How do SPACs operate?

SPACs raise capital through an IPO, where proceeds are put in a trust account. The money in the trust account can only be distributed to complete an acquisition or can be returned to the investors after a finite time has elapsed.

Investors in SPACs do not know what the SPAC will buy, but they can speculate from the backgrounds of the SPAC’s executives or comments on social media. When the SPAC finalizes the purchase of the private company, the company goes public.

Note: SPACS are publicly listed, have a finite period within which they should have acquired a private company or else return money to investors. Additionally, they specialize in particular industries.

Going from Public Company to Private Company

A company can go from public to private when investors (or groups of investors) purchase all the company shares (often at a premium above the current share price) and then delist them from the exchange. This can happen when investors think that they can undertake actions that will increase the company’s value beyond its current value.

Trends in Public and Private Companies

The number of public companies is increasing in emerging economies due to higher growth rates, foreign capital inflows and a transition from closed to open market structures. The opposite is true for developed economies.

In developed economies, the number of private companies is increasing (and that of public companies decreasing) due to the following reasons:

• Mergers and acquisitions that have decreased the number of independent listed companies.
• Ease of accessing capital as the number of private capital sources has increased.
• Incumbent owners and management need to preserve control of the companies.

Note: Governments can create separate corporations and maintain 100% (or varying levels of) ownership.

Question

Which of the following statements is most likely true regarding a corporation at the maturity stage?

1. Revenue and cash flows are positive and predictable.
2. Revenues are positive and predictable, but cashflows are unpredictable.
3. Low potential to source external financing.

Solution

The correct answer is A.

At the maturity stage, a corporation has positive cash flows and revenues. As such, the corporation has a high potential to outsource external financing at reasonable terms because its cash flows are more predictable with business-as-usual operations.

B is incorrect. At the maturity stage, companies have typically developed stable operations and efficient cash flow management. Their revenue streams are reliable, and cash flows are usually predictable due to a well-established customer base and streamlined processes.

C is incorrect. Mature companies usually have strong financial positions, established track records, and predictable cash flows, making them attractive to lenders and investors. As a result, they typically have good access to external financing, whether through debt or equity markets.