Why Going Private Can Be an Attractive Option for Struggling Companies
As the economy regains strength, some public companies are using privatization to add value and stay solvent
- Going private is a way for a public company to reduce the number and control of shareholders and lessen regulatory compliance requirements.
- While less popular than IPOs, instances of companies going private have increased in the past few years.
- Going private may shield a company from making decisions for short-term profit instead of long-term growth.
- Current market conditions, particularly the widespread availability of cheap credit, are beneficial for take-private transactions.
Dunkin’ went private last year. Barnes & Noble, Dell, Panera Bread, and H.J. Heinz have done it in the past decade. Toshiba is progressing toward privatization.
There are numerous ways to take a company private and many reasons for doing so, but the result is the same: a company’s shares of common stock cease public trading.
Taking a public company private reduces the number and control of shareholders and lessens regulatory compliance requirements. It offers a business the opportunity to buy back all (or a substantial amount) of its common stock or other equity securities and delist from public exchanges. As a private entity, the company is spared most of the requirements of Sarbanes-Oxley Act compliance, including quarterly earnings reports.
In the economy’s current upswing, tales of highly valued IPOs and Special Purpose Action Companies created to raise funds through IPOs dominate the financial news. But there has been a different type of transaction that is not receiving as much attention but is indicative of the economic chaos wreaked by the pandemic.
Reasons to consider going private
When Elon Musk famously floated the idea of taking Tesla private in 2018, he defended his position by claiming “wild swings” in the public company’s stock price were a “major distraction for everyone working at Tesla.” He also complained about the “enormous pressure” of the quarterly earnings cycle.
Many CEOs reportedly share Musk’s frustrations. Going private is a way to shield a company from shareholder demands, regulatory burdens, and decisions made for short-term profit instead of long-term growth. And the administrative costs and drain on resources that accompany maintaining regulatory compliance can significantly hinder a less-profitable public company.
Private companies enjoy a level of freedom that their public counterparts don’t. Take the case of Toshiba, the Japanese industrial group that was most recently entertaining a $21 billion bid by the private equity firm CVC Capital Partners. The company has been plagued with scandals, public criticism over its corporate governance practices, and substantial financial losses over the past several years. Going private would limit the company’s public visibility and eliminate issues with “activist” investors by reducing its number of shareholders to one: the buyer.
Public companies that choose to go private sometimes also benefit from the operational expertise and financial engineering that private equity firms can provide, along with the influx of capital. Sometimes, delisting can buy a company enough time to change its fortunes. But often, privatizing and right-sizing also come at a high cost, with large-scale restructuring and layoffs.
As a rule, going private involves a great amount of debt. Typically, operational efficiencies are needed to stay ahead of the debt burden, as the acquired company’s cash flow is used for repayment.
The current take-private environment
In 2019, take-private initiatives reached heights not seen since 2007, just before the Great Recession. The pandemic that followed has had mixed impacts on privatization: while some companies saw it as a way to raise cash quickly to salvage their businesses, the lows of the stock market made it the wrong time to sell. The pandemic-led uncertainty also made private equity firms, usually quick to take advantage of a buyer’s market, more cautious in their acquisitions.
In its Spring 2020 Private Capital Pulse Study, BDO reported that because of “suppressed deal activity in early/mid-2020,” the heightened competition for “quality deals” will continue as the economy improves. Private equity companies are reportedly sitting on “nearly $3 trillion of committed capital.”
Current market conditions, particularly the widespread availability of cheap credit, are beneficial for acquisitions. If debt becomes more expensive because of an increase in interest rates, the number of take-private transactions is predicted to decrease.
The mechanics of taking a public company private
There are several ways a public company can become private, and all involve a qualified buyer or group of buyers. Some standard methods to facilitate the acquisition of a company’s shares are:
- By a tender offer or hostile takeover by another company or group;
- With a private equity buyout, in which a PE firm or consortium of firms buys a controlling share of the company;
- Through a merger with another company;
- Via a reverse stock split, to reduce the number of shareholders; or
- By a management buyout, in which the company’s own management team raises the capital to buy the company’s shares.
Once the stakeholders agree to the underlying deal, the take-private process is straightforward: the acquiring group secures enough equity to finance the deal and then purchases or acquires all or most of the public company’s stock.
A publicly held company is allowed to deregister a class of its equity securities when it meets the SEC’s shareholder threshold (300 or fewer shareholders of record, or fewer than 500 when the company does not have significant assets). It can then delist from the public exchange and complete the privatization process.
Delisting relieves a company from most of its reporting duties to the SEC. But in some take-private transactions, the SEC requires compliance with Rule 13e-3 of the Securities Exchange Act of 1934 and the filing of Schedule 13E-3. These filings provide additional disclosure and waiting-period requirements designed to protect shareholders. Take-private transactions must also comply with the same federal and state laws that govern all acquisitions or sales of a public company.
Considerations for corporate management and shareholders
The process of taking a public company private can involve a significant degree of risk in some cases. For large corporations, it is not a short-term fix. And taking on an unmanageable amount of debt or accepting the offer of a group that doesn’t align with the company’s mission are real concerns for corporate management teams. But sometimes, the benefits outweigh the risks, and organizations benefit from the regulatory freedom and longer-term planning privatization enables.
The complexities involved in going private demand the guidance of seasoned financial and legal advisors. When so much is on the line, the process should not be undertaken lightly.
The attorneys at Johnston Clem Gifford routinely advise companies on merger and acquisition issues as well as securing capital and regulatory compliance. Our Financial Services teamworks with the world’s largest institutions as well as smaller and middle-market firms. Contact us online or by calling (214) 974-8000.