Transcript | Riding a Hot IPO Market – Capitalizing on Opportunities and Managing Key Challenges

Over the past year, it has been an active and often wild ride in the IPO market. After a slow period during the heart of the initial COVID-19 crisis, market activity has reignited at a blistering pace, driven by optimism in the global economy and the emergence of special-purpose acquisition companies or SPACs, among other factors. This is Kevin Donahue, a senior director with Protiviti, welcoming you to a new installment of Powerful Insights.

There is ample excitement right now about IPOs, but there also are areas to be mindful of and manage effectively in order to achieve a successful public offering. Patience and proper preparation are a must.

I recently interviewed Protiviti Managing Directors Susan Alexander, Brad Rachmiel, Charlie Soranno and Nick Spinks, leaders in our Public Company Transformation group, about the overall state of the market and some of the key issues and concerns for organizations to address effectively during the overall IPO process.

This year, we’ve seen an increase in market activity. If you look across what we’re seeing, we’ve seen over 600 IPOs that have gone public that includes traditional IPOs and SPACs. The record levels of liquidity, low interest rates, tend to be driving our clients, and what they’re asking us is to help them with speed to market in their IPO process. It’s hit the market while it’s good. There are plenty of investment dollars for these companies to go public, and there’s a lot of demand within the stock market for these companies that are going public.

Protiviti Managing Director Susan Alexander notes that allowing sufficient time to become a publicly held entity is essential, even in a hot market where management may feel rushed to get things done fast.

One of the things that we typically recommend to companies that have a period of time, we like to see a 12- to 18-month window where they can really do an assessment of where they currently stand and identify a road map to address the areas that are really crucial for companies to have in place when they go public and when they have additional scrutiny, additional filing requirements.

With this robust IPO market, a lot of that assessment there’s not the time to do that, so, several of the things don’t get addressed in advance, and this could result in either inaccurate financial reporting or one of the heaviest lifts for a company that’s going public is, they’re Sarbanes-Oxley compliant. So, making sure that they have internal controls over financial reporting, and if you don’t have the time to get those controls in place, you could end up reporting and we’re seeing a little bit of this material weaknesses in their internal control environment, and that could affect valuations.

Driving the current hot market, at least in part, are SPACs, offering a new avenue toward the public markets. Protiviti Managing Director Charlie Soranno explains.

It’s no secret that the majority of IPOs that went out in the latter half of 2020 and throughout 2021 have all been SPACs. A SPAC, in its simplest form, is a public investment vehicle with one sole purpose: to identify and acquire a private operating company. So, how does that happen?

First, the SPAC goes public, and from a complexity standpoint, it’s effectively not that difficult. It’s effectively, cash and equity on the SPAC’s balance sheet. Then they go through a process which can be several months, up to half a year, where they identify and then ultimately merge with the private operating company in a so-called de-SPAC transaction, and generally through an S-4 Business Combination SEC filing, and then, upon the SEC’s effectiveness notification, the operating company becomes the SEC registrant and takes on all the regulatory attributes of the SPAC at that point.

So, as we see either heavy or light SPAC IPO activity, you have to look past that and understand that there are hundreds of SPACs out there still searching for targets to effectively merge with, and then for those targets to become operating entities and become SEC registrants.

There is a lot of money on the table, so a lot of SPACs have gone and are out there. They have a window of time — 18 to 24 months —to spend that cash or liquidate and return it. So, there is a lot of pressure to identify the right operating companies to merge with.

Brad Rachmiel notes that SPACs can be a great opportunity for going public, but these entities are also on the clock.

While the SPACs going public today have gone down, we’ve seen a decrease there, and a lot of scrutiny around that process. The de-SPACing process, where mergers are happening within an operating company, continues to be very strong, and doesn’t seem to be bothered by the SPAC decline itself. So, lots of money on the table needs to be returned within a short window of time, and liquidate that SPAC if they don’t find an operating company.

So, what’s the result? Companies that have not typically considered going public for funding in the past are now quickly having to consider and think about becoming a public company, and there’s a lot to think about when you do that. A number of companies are private equity owned or sponsored today, and they may see a very lucrative exit by doing this strategically right now. In the past, we may have had 18 to 24 months to think about getting ready and had time to do what we call a readiness assessment and a road mapping activity to be a little bit more prepared for that transaction.

In this environment, that timeline is compressed significantly, and so you may not even have time to do a full readiness assessment, and you may be jumping right into an actual IPO project-planning process. I think the money is there, absolutely — it’s been transformed, and people are having to be much more nimble and think about, “How do we compress doing what we’ve done over a much longer period of time into a much shorter period of time?”

For all organizations on an IPO route, whether it’s direct public listing through a SPAC or other means, there are consistent and persistent challenges they face. Brad explains.

The first would be — and a very common one is — segregation of duties, of activities and access to IT systems. People are moving fast, and a lot of people can have responsibility for multiple activities in the organization, such as setting up of vendors and paying the vendors, for example. So, that segregation-of-duties conflict can be a difficult thing to remediate for a lot of newly public companies, and that is one that is continuing to be a challenge not only on a material weakness-related item that gets called out. It’s something that we spend a lot of time helping companies figure out: “What is the right answer there?” — and that may lead to new system changes that may lead to process changes.

Nick points out that broader technology and cybersecurity concerns are critical challenges as well.

With the speed to market, we’re seeing companies that have varying manual processes in place, and the transition to get an ERP system in place that they can have reliable financial reporting from tends to be a challenge for some of these companies that are going public, especially in the SPAC world, where there may be smaller companies that are coming to market.

One of the other areas that we’re seeing as a challenge is the continued focus around cyber security and privacy. Historically, if you look back, a company that would go public even five years ago, we didn’t see as much focus on cybersecurity — the controls in place to detect and respond to some of the breaches and things that we see pretty much on a daily basis. So, having those controls in place around cybersecurity so that the information is available, you don’t have to worry about real-time reporting. The resiliency around disaster-recovery programs, those continue to be a focus area that we have not seen in the past, but, given the volume of breaches, is a focus.

And it should come as no surprise that, as Brad remarks, the war for talent is affecting pre-IPO organizations significantly.

Right now, there’s an extreme war for talent, and there are critical roles that need to be filled. There are gaps when you are a private company that you don’t need to have, such as a chief accounting officer, an SEC director for external reporting, and even FP&A — financial planning and analysis — and tax leaders are key roles in any public company that lots of people are looking for now at a much more accelerated pace given the numbers we talked about earlier and the several hundred IPOs that have already happened this year. If you think about all of these new public companies through this de-SPACing process or a traditional S-1 process, there is a war for talent out there. That is a second challenge organizations are facing.

He adds that change management is a critical area to address as well.

While the IPO is an event, sustaining as a public company is a process ongoing, and there are things that have made each of these private companies successful — i.e., their culture is something we don’t want to necessarily change. That might be their strategic advantage in the market, but they have to be different and act different as a public company around governance, around controls, around who can do what and who can’t, around how you document things and evidence things. So, that change management component can be daunting. It all starts with the right tone at the top, getting alignment with the executives and then making sure you’ve got the right change management skills to train, educate, continue to make this company sustainable change effective.

Charlie observes that one of the most significant changes an organization must consider is its overall readiness to not only become a publicly held company but also to operate as one.

Any time there’s a hot market, regardless of venue, the valuations can be rather high and, in some cases, the valuations can be unrealistic. So, it could provide in a SPAC world postmerger issues of not meeting expectations or, in a regular IPO market, not meeting analyst expectations, and that would have a drain on a company’s stock price. That’s purely financial. From an operational standpoint, companies that effectively rush out, maybe they’re not ready. Maybe they’re not sophisticated from a business process or information technology process. What we try to talk to our clients about is, “Yes, you must focus on the project of becoming a public registrant, but really, the process of getting there and the process of staying there as a public company is equally important.”

He adds that technical issues and challenges continue to be common place.

We still see issues with companies, again, not being ready, focusing too much on the project and not the process. What we’re also seeing is technical items that are holding companies up, whether there are technical accounting or reporting issues, either that management has difficulty with, their auditor has raised concern about, or the SEC has raised concerned over technical accounting or reporting issues through the SEC common process, and that can happen regardless of the vehicle.

This comment from Brad may sum things up best.

You need to assess. You need to put together a road map, and you need to have a timeline that fits with everybody’s expectations.

Finally, Susan offers an outlook for the next 12 months and maybe beyond.

I would say there’s certainly no shortage of companies that are waiting to go public. I read the other day that the average age for a private company today is 12 years. So, it’s really fairly short there, and there are also more than 500 unicorns out there — those companies with valuation over a billion dollars. For the next six months, and as the economy, hopefully, gets a bit more certainty next year and beyond — with this resurgence of the pandemic, it will be interesting to see where it goes — we’ll continue to see this hot IPO market.

I want to thank Susan, Charlie, Brad, and Nick for providing their insights on this highly interesting and hot topic. For more information, visit the Public Company Transformation page on the Protiviti website at Protiviti.com/PCT. You’ll find a wealth of information and insights, including the fourth edition of our popular Guide to Public Company Transformation: Frequently Asked Questions. And as always, I invite you to please subscribe to our Powerful Insights podcast series and to review us wherever you get your podcast content.