StartUp Suite:

The Initial Public

Offering

$
Contents
The public market 1

Are you ready to go public? 5

Overview of the registration process 8

Estimating the costs of going public 14

Operating as a public company 16

The public
market

If you are considering taking your company into This guide summarizes the rules and procedures
the public market, then you are likely aware of the essential to the process of public ownership
myriad of benefits that decision can bring. through the initial public offering (IPO). It is
However, going public is not for everyone. intended to guide you through the necessary
Deciding whether it is appropriate for your research and analysis.
company requires extensive research and
analysis. You must have a thorough Please note:
understanding of the process - including its This publication is for informational purposes and
potential disadvantages. is based on available US rules and regulations as
of December 2000. Readers should understand
Careful planning will define the difference that this document was not intended or designed
between success and failure. A solid plan can to render specific legal, accounting or other
help you stay on top of key action steps and professional advice or services. The information in
manage the inevitable bottlenecks. Only then can this publication is subject to change without
you make the most of market conditions and notice. Entrepreneurs requiring expert assistance
achieve your business objectives. about specific business issues should consult with
competent and experienced advisors.
While well-publicized stock offerings draw a lot of
attention, there are actually several ways to take
a company public: the public sale of debt,
common stock, preferred stock or a combination
of these securities. With the development of the
electronic marketplace, going public has become
simpler and faster, especially for small
companies.

1 | StartUp Suite: The Initial Public Offering

The benefits
Building capital Expanding relationships
Going public can provide the necessary capital to Going public not only enables an organization to
develop new technologies and products or to obtain equity on more favorable terms, but it also
improve existing ones. It can be used to fuel increases your future financing alternatives. It
growth, fund acquisitions, provide investor may allow you to undertake a merger or an
liquidity, build new operations and increase acquisition more easily — not only because you
production. It is of particular benefit to a high- will have access to capital but also because you
growth company trying to keep up with customer will have solidified relationships with investment
demand. bankers, accountants and attorneys.
An additional benefit of going public is investor Additionally, company principals may be able to
liquidity. Unlike a private placement, an eliminate current and future personal guarantees
investment in your firm is increasingly attractive to to lenders, landlords and suppliers.
more investors because it is easier to enter and
exit. Recruiting and retaining employees
Stock and stock options can be used to recruit
Increasing public interest and retain key personnel. Options have become a
Disclosure requirements, which essentially put significant part of management and officer
your company on "display," help to garner compensation, giving them incentives to increase
publicity, attract investors and expand business shareholder value.
relationships. Some of the more successful and
better-publicized offerings have been approached
less like traditional IPOs and more like new-
product launches.

2 | StartUp Suite: The Initial Public Offering

The challenges legal fees associated with the offering itself.
Maintaining good shareholder relations is also
costly. Typically, companies create a public
Facing public and shareholder relations department that deals with both the
scrutiny press and the investors. This group ensures that
The entrepreneur may find it difficult to transition all necessary information -- but no more -- is
from operating independently to operating in a disclosed to the investors and to the general
"fishbowl." Decision-making becomes more public.
complex when you must consider such things as
increasing shareholder value and the market view Other costs of becoming public include managing
of new product launches and business for both the short-term and the long-term. Indeed,
expansions. These events will be closely some strategic decisions may negatively affect
monitored by the public and must visibly the short-term stock price, but positively influence
contribute to the value of the company. All major the long-term stock price. This may be a cost to
decisions will require thorough analysis and the company because principals will have to deal
excellent public relations. with the negative psychological reaction of the
market to the company, which is sometimes
Taking all of the necessary precautions before difficult to reverse.
making a big product launch or strategic
announcement does not mean that you will be In today’s electronic world, electronic
guaranteed a favorable public response. dissemination of information is desirable. The
Lukewarm and negative responses occur, and use of electronic distribution channels for
they invariably lead to decreased stock prices. disseminating information about companies going
public (e.g., a prospectus) is well established. To
Stockholder votes are required on many matters ensure that all investors have access to the same
including: increasing the number of shares information in the same place, the SEC has
authorized, creating a new class of stock, stock- enacted rules to address the problem of
option compensation plans, employee stock- registrants making selective disclosure of material
purchase plans and merger and acquisition nonpublic information to analysts, institutional
activity. investors, or others, but not to the public at large.

Additionally, you should be prepared to share A public company, its officers and directors are
proprietary strategic information with the public. subject to securities and corporate laws. The SEC
The annual report discloses detailed financial closely monitors insider trading. Company
information and a limited amount of strategic leaders must thoroughly understand what they
information. Although this information may offer are permitted to do with their shares following an
your competitors insight into your company, the offering. For example, they should refrain from
benefit of building customer and investor loyalty buying or selling at a strategically sensitive time
through information disclosure should outweigh as this could be construed as insider trading.
the cost.

Managing costs
There are many administrative costs that come
with public ownership, including legal and
accounting fees, electronic filing requirements and
the preparation and distribution of proxy material
and annual reports. These are all annual costs
that follow the initial underwriting, accounting and

3 | StartUp Suite: The Initial Public Offering

The alternatives
Going public is not appropriate for every Exploring each of these options with a trusted
company. You must consider both market business advisor is critical to determine if going
conditions and the company’s readiness to accept public is the best decision for your growing
the responsibilities and challenges associated company.
with a presence in the public market.

Alternatives include both corporate strategic

partnering and private placements. Both of these
alternatives offer a number of options for raising
capital to fund company initiatives and ventures.
Private placements can mean remaining exempt
from registration with the Securities and
Exchange Commission (SEC). Strategic
partnerships can range from joint ventures and
relationships with venture capital firms to
Employee Stock Ownership Plans (ESOP).

Additionally, some companies that choose to

remain private look to commercial banks for a
range of financing alternatives, including short-
term lines of credit, mortgage loans, term loans,
commercial paper and accounts receivable and
inventory loans.

4 | StartUp Suite: The Initial Public Offering | Arthur Andersen

Are you ready
to go public?

Evaluating your company created from the financial and strategic analysis
that is done by the company and its advisors,
and industry including investment bankers and attorneys. The
SEC allows companies to provide more
When determining whether to take your company projection-oriented financial and strategic
public, it is essential that you extensively analyze information in their prospectus with no increase in
your company and its industry. You should their liability. This information, rather than
compare sales and earnings with industry trends, consisting solely of a series of projections,
assess your company’s working capital, cash-flow conveys the company’s strategic direction as well
and customer base (as well as the potential as its strengths and weaknesses in the industry.
growth of the company), its competitive edge and
the quality and experience of its management. If
your industry has seen any recent IPOs, analyze
those as well. Look at your competitors' financial
performances, prospectuses and registration
statements, as well as the performance of their
stock. Study the ways your competitors have
dealt with investors, analysts and the media.

The ability to forecast is extremely critical when

deciding to take a company public. The offering
price is generally derived from a figure based on
projected, rather than historical, earnings,
although in recent years increased emphasis has
been placed on historical and projected revenues
rather than earnings. These projections are

5 | StartUp Suite: The Initial Public Offering

Analyzing organizational ability to support your company’s after-market
needs. This support mainly consists of research
structure and capitalization because your investment bank will be following
your company and issuing rating reports. If your
To increase the attractiveness of an offering, the company is not followed closely, it may lose
company may need to make certain changes in attractiveness and not achieve a fair valuation in
organization and capitalization. For example, the the market.
underwriter may recommend a recapitalization of
the company’s outstanding stock to ensure a Select an underwriter that has done several IPOs
distribution broad enough to satisfy market in the industry and has a proven track record of
requirements once the offering is completed. The success. The firm will also need to be able to
underwriter will also be instrumental in distribute the newly issued securities. Typically,
determining the type of offering to be made and the sales and trading floor of the investment bank
registration statement to be filed. Changes may will sell the securities on the day of the IPO. The
also be needed to ensure full compliance with lead underwriters, usually two or three investment
legal and regulatory requirements. banks, sell the majority of the company’s stock on
the day of the IPO. However, the underwriting
syndicate may consist of 30 or more institutions
Assembling your team
that all assist in the sale of the securities on the
It is crucial that you have the right team to take
day of the IPO. The managing underwriter leads
the company public. You cannot sell even the
the whole process with assistance from other lead
most attractive prospectus without the right mix of
underwriters. The rest of the syndicate is only
both internal and external professionals. That
involved in the actual sale of the securities.
means hiring accountants and attorneys with the
requisite experience, and identifying and aligning
your organization with underwriters that know Independent accountants
your business and will serve as your advocate. Choose a top accounting firm to increase
Potential investors need to see that professional credibility with investors and make certain that
management guides the company, that it is financial data reported in the prospectus is
credible and trustworthy and that it will lead the accurate and without material error. Selecting a
business toward greater success. firm with industry expertise ensures that its staff
understands your company and its critical
accounting issues. These accounting issues
Company management include the way in which revenue is recognized,
The company’s leaders must do an excellent job inventory is accounted for and employee stock
preparing the company before taking it public. You options are handled.
and your colleagues are responsible for attracting
the main buyers of the company’s stock in the Attorneys
IPO. This is your opportunity to sell investors on
Choose a law firm that is familiar with
the company’s future prospects. Without intense
underwritings and has had some industry
preparation and confidence in the company’s
expertise. The firm’s attorneys can address
value as an investment, the presentation will be
potential areas of liability and explain how to
unsuccessful -- and the IPO could be undersold.
protect against possible suits. The attorneys can
Underselling an IPO, which means that all shares
help you deal with regulatory agencies by
are not wanted before the IPO, bodes very poorly
ensuring that the prospectus meets all necessary
for the stock’s post-offering performance.
requirements. They will also be involved in
developing a fair underwriting agreement that will
Investment bankers detail the underwriter ’s role and level of
When selecting an investment banker to compensation.
underwrite and manage your offering, choose a
firm that has the industry expertise, desire and

6 | StartUp Suite: The Initial Public Offering

Getting into position require that all material transactions be presented
on the face of the financial statements. All other
related-party transactions should be disclosed in
After determining that the market is broad enough the footnotes. Such disclosures would include
to support your business as a public company, sales and/or purchases from affiliated entities.
you will need to position the company to achieve
optimal shareholder value and market valuation.
Entering the marketplace and creating an Internal controls
operating history represents the initial phase of
activity. Forming a professional management
team to direct your company and sending the The Foreign Corrupt-Practices Act was adopted in
right team into the public market to talk with response to widespread publicity regarding so-
potential investors is also essential. called "sensitive payments" by both domestic and
foreign companies to government officials,
Because many companies are reluctant to pay customers, suppliers and others. These payments
the legal fees that ensure proper incorporation were in most cases unlawful and improperly
before going public, there is often a need for accounted for in order to cover up the illegalities
significant corporate "cleanup." Most underwriters involved. The theory behind this Act is that
want to see that a business has allocated 10 adequate internal control systems should result in
percent of its stock to company managers and disclosure (and thus, cessation) of any such
personnel who have a personal stake in the sensitive payments.
success of the enterprise.
Accordingly, the accounting provisions of the
To further ensure that the company is prepared to Foreign Corrupt-Practices Act have broad reach
handle all of the actions that are required of a because they subject public companies and their
public company, consider acting public for one employees to potential sanctions under the
year before the IPO. You and your colleagues Securities Exchange Act of 1934 ("the 1934 Act")
should demonstrate your ability to comply with if there is not an adequate system of internal
SEC regulations and requirements by preparing controls or accurate accounting records. A
financial statements that comply with the SEC’s company that is planning to go public should have
disclosure requirements and establishing its present system of internal accounting controls
procedures that ensure that required information evaluated by independent accountants.
can be prepared in a timely manner. Underwriters often request a letter from the
company’s independent accountants confirming
that no material weaknesses in internal controls
Related-party transactions have come to their attention.

When there are material transactions between

major shareholders or management and the
company itself the exchanges are reluctant to
admit the securities for listing. The New York
Stock Exchange (NYSE), the American Stock
Exchange (AMEX) and the NASDAQ all require
that the company review, oversee or eliminate
related-party transactions. SEC regulations

7 | StartUp Suite: The Initial Public Offering

Overview of the
registration
process
Typical time schedule for
an IPO
Week 1 A "working group" of company
representatives, underwriters, Week 12 Approximately 30-45 days after the
attorneys and independent registration statement has been filed,
accountants meet to review SEC the SEC issues its comments.
requirements and assign
responsibilities for drafting and filing Week 13 Respond to SEC comments and file a
the registration statement and pre-effective amendment to the
prospectus. registration statement. Distribute the
“red herring”. The road show
Weeks 3 Drafts of the prospectus are commences.
through 6 circulated to the working group. They
are reviewed and due diligence Week 15 The SEC declares the registration
sessions are held. effective and the independent
accountants issue their comfort letter.
Week 7 A presentation is made to a major The company and the underwriters
rating agency. (This step applies to agree on the size of the offering as
debt offerings only.) If appropriate, the well as the offering price. The
underwriters meet with stock underwriting agreement is executed
exchange officials to discuss listing and appropriate amendments are
requirements and procedures. filed.

Week 8 The registration statement and A published notice of the offering is

exhibits are filed with the SEC, state placed in U.S. financial newspapers
securities commissions and the and journals.
National Association of Securities
Dealers (NASD). At this time, all Week 16 A "closing" takes place, at which time
information is a matter of public the proceeds are transferred to the
record, and the underwriters may company.
begin syndication work.

8 | StartUp Suite: The Initial Public Offering

The registration process During the quiet period, the SEC discourages the
initiation of new publicity and the issuance of
forecasts relating to revenues, income or earnings
Once you decide that going public is the best way per share (except to the extent such forecasts are
to raise capital, you will follow a process contained in the registration statement). The
governed by the Securities Act of 1933 ("the 1933 publication of opinions concerning values is also
Act"). The SEC does not deal with the merits and discouraged, as that type of information could be
quality of the offering; rather, it is concerned with viewed as promoting the company’s stock. The
the fairness and completeness of the information company should generally curtail publicity about
included in the registration statement. The 1933 itself although that publicity may have nothing to
Act specifies two major requirements: do with the offering. Companies are permitted to
respond during this period to legitimate inquiries
1. A registration statement must be filed with the for information about the company and to
SEC before securities are offered for sale to the continue publishing normal advertisements, new
public (with the exception of limited product announcements and reports to
circumstances). shareholders and the public.
2. The sale of any securities is prohibited until the
registration is declared effective.
Complying with blue-sky laws
Blue-sky laws refer to state securities laws and
At a minimum, established companies that go are named after the suspect investments they are
public must present audited statements for the designed to prevent. Blue-sky laws vary and may
past three years as well as selected financial data be more stringent than U.S. federal securities
for the last five years. Other financial statements laws, as they permit state officials to decide on
may be required, including in certain the merits and the fairness of the offering, not just
circumstances pro forma financial information. the fairness and completeness of the information
included in the registration statement. If the
applicable state officials decide that the offering is
Creating a letter of intent with the not suitable for purchase by the citizens of their
underwriter state, the securities cannot be sold in that state
Both the company and the underwriter sign a even if the offering meets federal requirements.
letter of intent, a preliminary and non-binding The company must make sure it is in compliance
agreement that estimates the size of the offering with the securities laws of the various states
and the price range. This occurs shortly after where sales of the securities are likely to take
board approval and selection of the managing place.
underwriter. The letter also clarifies the details
about commissions and expenses as well as the Generally, the attorneys will prepare a "blue-sky
nature of the offering (e.g., exclusively common memorandum" setting forth the various provisions
stock or units that combine common stock with and restrictions of each state in which the
warrants, preferred stock, convertible debentures company plans to sell its securities. The purpose
or other types of financial instruments). of this memorandum is to ensure adequate
planning for dealing with various state laws.
Observing the quiet period Federal legislation preempts the states’ "merit
review" of offerings that will be listed on a national
The quiet period is generally considered the time
exchange.
between when a company first signs a letter of
intent with an investment banker (commencement
of the registration process) and when the
registration statement is declared effective by the
SEC.

9 | StartUp Suite: The Initial Public Offering

Organizational meeting Prospectus
Members of the working group including All prospectuses filed with the SEC must meet the
underwriters, independent accountants, attorneys "Plain English" requirements applicable to the
and company management meet to discuss cover page, summary and risk factors.
structure and timing decisions for SEC review,
due diligence and the presentation road show. Prospectus summary
The chief financial officer should be sure that the This short but very important section details
preliminary prospectus contains preliminary company operations, strategy and outlook for the
financial statements. Also, any corporate future. It also includes details of the offering and
housekeeping tasks, such as stockholder selected financial statement data.
approval for a stock split or an employee stock
option plan, need to be discussed and resolved Risk factors
prior to the offering. This section is a highly detailed look at the risks
your company either faces or could face. It is
Drafting the prospectus rigorous and comprehensive in its risk analysis.
The company and its attorneys prepare the
registration statement. It is a complex document Use of proceeds
consisting of the offering prospectus that will later This section explains how the capital will be used.
be distributed widely to prospective investors. It
also contains supplemental information required Selected financial data
by the SEC. There are several forms for This section includes comparative balance sheet
registration statements, but only three are used and income statement information for the past five
for the offerings of domestic companies. Form S- years.
1, a more general form, is most commonly used.
Forms SB-1 and SB-2 are used for eligible small Management’s discussion and analysis of
business issuers, typically those companies with financial condition and results of
revenues of less than $25 million dollars. Form operations
SB-1 is used for offerings up to $10 million for This part of the registration statement explains the
"transitional small business issuers" and Form reasons for recent financial developments
SB-2 is available for offerings of companies not (favorable or unfavorable), the quality of earnings,
classified as "transitional small business issuers." (e.g., factors that have made reported earnings
unusually high or low) and developments in
The prospectus provides detailed information on certain segments of the business. It explains how
the offering. Following is a list of its contents for known trends or uncertainties may affect future
an offering prepared on Form S-1: results and it discusses any known trends related
to, or demands on, liquidity and capital resources,
including material commitments for capital
expenditures and the sources of funds (internal or
external) to meet them. Overall, this section
represents a self-critique of past performance as
well as an attempt to give investors perspective
for the future.

10 | StartUp Suite: The Initial Public Offering

Business
This section is an extremely detailed look at the Working group members may request officer and
company’s operations, its strategy and its position director background information, the company's
in the industry. The company must remain charter, bylaws, stock purchase and debt
unbiased in its presentation of itself. financing agreements, business plans, significant
contracts, litigation files, stockholder lists and
Management other miscellaneous information. In addition to
This section contains background information on requesting documents, the working group will
management and directors, their current roles and conduct a thorough review of the company’s
compensation structures. operations, including financial results, strategy,
workforce, customers, industry and competitive
Additional information position. Every nuance of the company will be
This section explains any material transactions examined and reviewed for accuracy and
(generally exceeding $60,000) between the significance to strategy and operation.
company and its directors, officers and
shareholders of five percent or greater. It also The process may also involve one to two days of
describes the underwriting arrangements and the presentations by various members of the working
experts involved in preparing the registration group who will share their views of the company
statement. based on their individual expertise. Commonly,
several members of the management team will
Financial statements discuss operations and strategy, the chief
Two years of audited balance sheet data and financial officer will present on the company’s
three years of income statement, cash flow and financial position and attorneys will present on
stockholders’ equity are provided in this section. pertinent law issues, such as patents.
Detailed footnotes are also included. Generally,
unaudited interim condensed financial statements Selecting an exchange
and related footnotes are required. You will have to determine on which exchange
your stock will be listed, for example, the NYSE,
Drafts of the prospectus are continually circulated AMEX or NASDAQ. Each exchange has
to the working group until a final draft for the SEC requirements for listing. A summary of the listing
is finalized. During this period, the due diligence requirements can be obtained on the websites of
process takes place. the various exchanges.

Due diligence Filing the registration statement

The due diligence process is an information The company files the registration statement with
gathering exercise on all aspects of the company the SEC, state securities commissions and the
so the registration statement can be drafted as National Association of Securities Dealers
completely and accurately as possible. Proper (NASD). At this time, all information is a matter of
documentation and investigation will decrease the public record and the underwriters may begin
liability of each member of the working group syndication work — the marketing effort.
should any aspect of the registration statement be
inaccurate. It is critical for management to be The SEC requires electronic filings through the
dedicated to this process despite the potential Electronic Data Gathering, Analysis and Retrieval
headaches of gathering information for the system (EDGAR). The system was designed to
working group. This process is important in enhance the speed of SEC filings and make
helping the working group learn about the financial and corporate information more readily
company so members can better market it to available to the financial community and others.
potential investors.

11 | StartUp Suite: The Initial Public Offering

Regulation S-T contains the requirements and Such presentations, made in various cities, are
procedures for filing electronically. Although the known as "the road show." The presentation
registration statement is filed electronically, the covers the company’s financial condition, its
company must obtain manual signatures and products and services and its performance.
retain copies for a period of five years. All new Company leaders also answer questions during
prospectuses and other financial reports including the road show. In this way, potential investors are
10-K’s and 10-Q’s are available at [Link]. able to see what kind of talent the managerial
team has to offer. The “road show” offers
SEC comment letter underwriters and managers the opportunity to
After reviewing the registration statement, the promote the company name and to begin building
SEC typically issues a comment letter (or a solid reputation in the investor community.
deficiency letter) approximately 30 days after
registration. This letter highlights items in the Comfort letter
registration statement that need to be addressed The “comfort letter” is an extensive document
or revised before the statement can become required by the underwriters and issued by the
effective. On reporting and accounting matters, independent accountants. It is not a part of the
company management or counsel normally registration statement and, in fact, is restricted to
answer the comment letter with the assistance of the use of selected parties. The letter is designed
the independent accountant. A pre-effective to assist the underwriters with their due diligence.
amendment is then filed resolving the issues The "comfort letter" is actually a report provided
raised by the SEC. The SEC may issue a follow- by the independent accountants that addresses
up comment letter addressing issues raised in the whether the company’s books and records
initial comment letter and/or issues that came to support the accounting information that appears
the SEC staff’s attention in the pre-effective in the prospectus.
amendment. It is not uncommon to receive follow-
up comment letters from the staff and be required
to file more than one pre-effective amendment.

Distributing the "red herring"

Even before the registration statement becomes
effective, the managing underwriter may distribute
to other securities dealers copies of the
preliminary prospectus (known in financial circles
as the "red herring"). The purpose is to interest
other securities firms in including themselves in
the sales syndicate. The members of the
syndicate may also use the “red herring” to elicit
indications of interest from their customers,
although no offers or actual sales can take place
before the effective date.

Organizing the road show

The company and its underwriters will assemble a
package designed to interest the public in buying
the offered securities. Underwriters with the
expertise to know to whom to market the
company’s securities, will focus on the company’s
strongest selling points and determine who will
make the presentation and how it will be
presented.

12 | StartUp Suite: The Initial Public Offering

Effective registration statement and selling syndicate only acts as agent for the
purchase of shares company, doing its best to sell the securities but
When all requirements have been satisfied, the not committing to purchasing any securities that
SEC declares the registration statement effective. remain unsold. The underwriters enter into an
The company and underwriters quickly sign a option known as a "green shoe" by which the
formal and binding letter of agreement. Then the company grants the underwriter an over-call on
underwriters purchase the company’s shares and 10-15% of the stated size of the issue to meet
begin reselling them to the public. Of course, heavy investor demand.
some unanticipated event — an international
crisis, for instance — could result in a market so Once these details are agreed upon, the
dominated by sellers that the syndicate might underwriting agreement is completed and the
suspend sales until prospects are more favorable. appropriate amendments are filed. The
agreement details all provisions related to the
The time it takes for a public offering to be offering from over-allotment options to underwriter
completed depends largely on how much reimbursement arrangements for expenses
preliminary work is needed to get the company to incurred in preparing the offering. Typically, the
the point where the filing of a registration offering price and size are determined only days
statement is feasible. Although registration may before the company actually goes public and may
take several months of hard work, events flow change as late as the night before.
quickly after filing. Sixty days is the typical interval
between filing the registration statement and Closing
official status as a public entity. It is wise, A closing takes place in which the proceeds are
however, to allow another several weeks for transferred from the syndicate to the company
unforeseen delays in what is an extremely itself.
complicated process.
The major expenses of going public include the
Offering price and size underwriters’ fees, legal fees, accounting fees and
The company and the managing underwriter printing costs. In addition, there are registration
agree on the size of the offering and negotiate the and blue-sky filing fees.
price at which it will be offered to the public.
Market conditions at the time of the offering can All estimates summarized below are for
have a dramatic impact on terms. The company informational purposes only and are not intended
and managing underwriter also need to agree on as a substitute for professional advice and exact
the type of offering, either a "firm commitment" fees. These estimates are subject to change.
offering or a "best effort" offering. With the former,
the underwriters purchase the entire offering at a
discount and then resell it to the public (this is
typical of sizable offerings). With the latter, the

13 | StartUp Suite: The Initial Public Offering

Estimating the
costs of going
public
Underwriters’ Legal fees
compensation Legal fees vary considerably. Services generally
include the corporate housekeeping work related
The maximum amount of direct and indirect to the offering, the preparation and clearance of
underwriters’ compensation is regulated by the registration statement, negotiation of the
NASD, and the nature of such compensation underwriting agreement and closing of the
must be reviewed by the NASD before the securities sales to the underwriters. However, if
offering can proceed. State securities or blue-sky the housekeeping work before the preparation of
authorities also review the terms of underwriters’ the registration is extensive and complex
compensation for fairness (unless the offering is reorganization is required, the costs rise and are
exempt). often categorized as "housekeeping" and "public-
offering." Charges allocated to housekeeping will
The underwriters’ cash discount or cash usually be treated as current business expenses
commission usually ranges from 7 percent to 10 for accounting and tax purposes. Because of the
percent of the public offering price of a new issue work required for each seller, legal fees also tend
of common stock. The underwriting commission to rise with a large number of selling
on debt is less than it is for stock. In smaller shareholders. If the underwriters’ counsel takes
offerings, some underwriters may also request responsibility for drafting the registration
other compensation, such as warrants to statement, the company may also pay part of that
purchase stock, the issuance of stock in advance fee.
of the offering at a price below the public offering
price, a right of first refusal on future offerings or An additional legal fee will be required for the
reimbursement for some of their expenses legal work related to the NASD and state blue-sky
(including their counsel’s fees). Some of these filings and clearances. Generally between
expenses will be incurred whether or not the deal $10,000 and $40,000, the fee is affected by the
is consummated. nature of the comments raised by the NASD and
state blue-sky authorities. It also depends upon
the degree of compliance by the company with
the requirements of those authorities and the
federal preempting of many state blue-sky
requirements.

14 | StartUp Suite: The Initial Public Offering

Accounting and offering will be registered and the aggregate
proposed public offering price of the securities to
audit fees be qualified in each state. If the company
registers securities in all of the states that require
Accounting and audit fees vary with the size of filing and the aggregate public offering price for
the company and the number of audits previously securities registered in each state is high, the
conducted. The independent accountants’ fees state blue-sky filing fees can amount to $15,000
also include their services in helping to respond to or more.
SEC staff accounting comments and their
preparation and delivery of the comfort letter to Registrar and transfer agents responsible for
the underwriters. physically accounting for and distributing shares
are fixed-fee arrangements that depend upon the
number of certificates issued and the number of
Printing costs certificates transferred. Fees are typically no more
than $5,000. In cases where there are selling
It is common for printing costs to exceed shareholders, a custodian’s fees of between
$100,000. These costs are dependent on the $2,500 to $5,000 may apply, depending upon the
complexity of the offering, the graphic nature of number of selling shareholders.
the prospectus and the size of the distribution.
Although the law does not require it, most Underwriters sometimes require the company and
underwriters insist on printing the registration selling shareholders to purchase indemnity
statement, prospectus, stock certificates and insurance against liability imposed under the 1933
underwriting documents. Act for possible erroneous statements or
omissions in the registration statement. This is
An experienced printer is essential for a smooth typically a prudent measure that should be
public offering. To avoid errors in the final investigated thoroughly with a qualified insurance
documents, the printer must be prepared for last agent since the cost and coverage can vary
minute changes and a fast turn-around. dramatically.

Additional costs There are other opportunity costs involved in the

process, such as the amount of time needed from
the executive and administrative personnel of the
The current SEC registration fee is $250 per each
company. People who have been spending their
$1 million of the maximum aggregate public
time running the business are suddenly diverted
offering price of the security (e.g., $2,500 on a
to helping the company go public.
$10 million offering). Usually, the company pays
for the NASD filing fee, amounting to $500 plus
one one-hundredth of 1 percent of the maximum
public offering price ($1,500 on a $10 million
offering); the maximum NASD fee is set at
$30,500. The amount of state blue-sky fees
depends upon the number of states in which the

15 | StartUp Suite: The Initial Public Offering

Operating as a
public company

Going public is never easy. Neither is being regulations or made a part of the requirements
public, as your company suddenly has an for listing on a stock exchange. The SEC, for
audience. The major difference between private instance, requires that public companies whose
and public companies is this: the role of the securities are traded on a U.S. stock exchange
public company is to serve the public. or on the NASDAQ trading system file annual
audited and consolidated financial statements
Investor relations and quarterly unaudited statements. And
whenever necessary, companies must file timely
notices dealing with changes in control of the
Keeping the public satisfied — through meetings organization, acquisitions or dispositions of
with financial analysts and brokers, through the assets, resignation of a director, changes in
dissemination of brochures that fulfill a continual independent accountants and any other
demand for both general and specific information developments that would be of interest to
about the company and through prompt news shareholders and that might influence the
releases to wire services and daily newspapers public’s investment decisions.
— will increasingly occupy management’s time.
A public company must also solicit proxies from
A new public company is subject to new shareholders before annual shareholders’
schedules, deadlines, regulations and meetings are held. All directors and officers and
procedures. You will need to develop or hire a any shareholder with a holding of 10 percent or
public relations group to create and distribute more in the company’s stock are required to
brochures and news releases. All of these efforts report their holdings and any purchases or sales
will serve to market the company to the public as of the company’s stock. If the company’s stock is
a very attractive investment. traded on an exchange, it must meet additional
requirements that are designed to ensure that
Public companies have certain obligations to shareholders receive the information to which
shareholders and the general public. These they are entitled and that all shareholders receive
obligations are carefully spelled out in SEC the same information at the same time.

16 | StartUp Suite: The Initial Public Offering

Periodic public reporting Part III must identify officers and directors,
executive compensation, security ownership of
The Securities Exchange Act of 1934 governs certain beneficial owners and management, and
reporting by public companies. Companies must certain relationships and related transactions.
file periodic and current reports with the SEC if:
• Securities are listed on a national stock Part IV is used for listing financial statement
exchange [Section 12(b) companies]. schedules and exhibits.
• They have consolidated assets of more than
$10 million and 500 or more holders of a class
of equity securities, including securities
Form 10-Q
convertible into equity securities [Section This is an unaudited quarterly report that must be
12(g) companies]. filed within 45 days of the end of each of the first
• Securities are registered under the 1933 Act three quarters of the company’s fiscal year. While
[Section 15(d) companies]. the financial statements included in the Form 10-
Q do not have to be audited, the company's
The forms to be filed on a periodic or current independent accountant must review them in
basis include: accordance with applicable auditing standards.

Part I must contain the following unaudited

Form 10-K condensed financial information in accordance
This is an annual report and must be filed within with U.S. generally accepted accounting
90 days of the company’s fiscal year end. principles and Regulation S-X:
Part I calls for a description of the company’s • Balance sheets at the end of the most recent
business, its properties, any legal proceedings in fiscal quarter and the end of the most recent
which it may be involved and any matters fiscal year.
submitted to securities holders for their vote. • Income statements for the most recent fiscal
quarter and the year-to-date period along with
Part II must include management’s analysis of the the corresponding periods in the prior year.
company’s financial condition and the results of • Statements of cash flow for fiscal year-to-date
operations. It must also contain selected financial period and comparable information for the
data for each of the past five years (i.e., sales, same period of the previous year.
income from continuing operations, total assets, • Footnotes, although such information contained
long-term obligations and income from continuing in the most recent Form 10-K need not be
operations and cash dividends declared per repeated.
common share).
Part II must also contain the following financial Part I must also include management’s discussion
statements prepared in accordance with U.S. and analysis of the company’s financial condition
generally accepted accounting principles and and its operating results.
Regulation S-X:
• Balance sheets at the end of the two most Part II must contain information about changes in
recent fiscal years. legal proceedings or any class of registered
• Income statements for the three most recent securities, senior securities defaults, the matters
fiscal years. submitted to a vote of security holders and
• Statements of cash flow for the three most reports on Form 8-K filed during the quarter.
recent fiscal years.
• Statements of comprehensive income and
stockholders’ equity for the three most recent
fiscal years.
• Footnotes and supplemental schedules.

17 | StartUp Suite: The Initial Public Offering

Form 8-K • A requirement that all audit committee members
Called "a current report," this form must be filed be or become financially literate with one member
within a specific number of days, from five to 15 having accounting or financial management
days depending on the event, after the expertise.
occurrence of a reportable event and must
include all information pertinent to the event. The SEC's rules were directed at additional public
Examples of reportable events include changes in disclosure and include:
control, significant acquisitions or dispositions of • A requirement that the audit committee provide a
assets, changes of independent accountants, report in the company’s annual proxy statement
resignation of directors and bankruptcies or indicating the committee’s review of the
receiverships. Additionally, this form is used to company’s financial statements, as well as
file the information required to comply with the discussions with the independent auditors
SEC’s selective disclosure and insider trading regarding the quality of the company’s financial
rules. reporting and the auditors’ independence.
• A requirement to disclose in the company’s
proxy statement whether or not the audit
Audit committee committee has a written charter. When a charter
requirements/auditor exists, a copy must be filed with the SEC at least
every three years.
independence • A requirement to disclose in the company's
proxy statement certain information about any
The NYSE, NASDAQ and AMEX require that audit committee members who are not
each listed company establish and maintain an independent.
audit committee as a part of the initial and
continuing listing requirements of those Additionally, in November 2000, the SEC issued
exchanges. In December 1999, the SEC and the new rules with regard to auditor independence.
major stock exchanges issued new rules requiring One aspect of these rules impacting companies is
a number of changes in the function of audit the requirement to disclose in the company’s
committees for public companies. The changes to proxy statement the fees paid to their auditors,
the exchanges’ audit committee requirements separating (a) fees billed for the annual audit and
include: quarterly reviews, (b) fees billed for IT services
and (c) all other fees. In addition, the company is
• A requirement for audit committees to adopt and required to disclose whether the audit committee
maintain a charter. In addition, the exchanges has considered the compatibility of the provision
require certain duties to be included in the of non-audit services with maintaining auditor
charter. independence.
• A requirement for the audit committee to consist
of at least three members, all of whom must be
independent.
• Expanded guidelines for determining the
independence of audit committee members.

18 | StartUp Suite: The Initial Public Offering

Posting information to the
world wide web
Documents filed on the SEC web site are
available after 24 hours.

Information on your company’s web site should

be continually monitored for accuracy and
consistency with the company’s SEC filings.

Because of a concern that companies may have

been disclosing important nonpublic information to
securities analysts or selected institutional
investors before making full disclosure of the
same information to the general public, the SEC
adopted new rules in 2000 to limit these
practices. As a result of these new rules, when
your company discloses material nonpublic
information to certain persons, your company is
required to disclose that information to the public.

19 | StartUp Suite: The Initial Public Offering

Proxy solicitation Reports by 5 percent
requirements security holders
The SEC proxy solicitation requirements apply to Any person (including a "group" acting in concert)
all companies with a class of securities registered who beneficially owns 5 percent or more of an
under the 1934 Act. The rules require that before equity security registered under the 1934 Act is
a company holds a meeting or seeks the written required to file information statements on
consent of holders of a 1934 Act security, the Schedule 13D or 13G within specified periods
company must send the security holders either a after acquiring such ownership. Schedule 13D
proxy statement (if the company wants to solicit requires, among other information, disclosure of
its proxies) or an information statement (if the the identity of the purchaser, the source of funds
company is not soliciting its proxies). The used to make the purchase, the number of shares
company must also send an annual report if the beneficially owned, the purpose of the purchase
meeting is an annual meeting at which directors and any arrangements made with others with
will be elected. respect to any securities of the company. An
amended Schedule 13D must be filed to promptly
Either the proxy or an information statement must report any material change in the facts set forth
describe the matter(s) to be voted on and other therein, including acquisitions or dispositions of 1
specified information. For proxy statements percent or more of the registered security.
involving the election of directors, the company
must provide information regarding management SEC regulations permit certain institutional
and management compensation. investors — those who have acquired securities
When certain matters are to be considered, the of the company in the ordinary course of business
proxy rules require that proxy materials be filed without the purpose or intent of changing or
with the SEC 10 days prior to the date that influencing control of the company — to file a
definitive copies of such materials are first sent to simpler form known as Schedule 13G. A "passive"
security holders. The SEC staff may review the investor, or a party who beneficially owns less
proxy materials before the company is permitted than 20 percent of the class of equity securities of
to mail the materials to its security holders. the issuer and certifies that it has no intent to
change or influence the control of the issuer, may
also file the Schedule 13G form. If any of the
reported information needs to be updated, an
amended Schedule 13G must be filed within 45
days of the end of each calendar year in which
the investor maintains ownership of 5 percent or
more.

20 | StartUp Suite: The Initial Public Offering

Insider reporting and "short- transactions not commonly thought to involve
sales, such as mergers and reorganizations.
swing profits" provisions Reporting persons planning such transactions
should consult securities counsel to avoid Section
Section 16(a) of the 1934 Act requires each 16(b) liability.
executive officer, director and holder of more than
10 percent of any class of equity security Finally, Section 16(c) of the 1934 Act prohibits
registered under the 1934 Act to file with the SEC reporting persons from making "short sales" (i.e.,
initial reports on Form 3. He or she is required to sales of securities that the seller does not own) or
disclose his or her beneficial holdings of all equity "sales against the box" (i.e., sales of securities
securities of the company (including classes of that the seller owns but does not presently plan to
equity securities not registered under the 1934 deliver). Violations of Section 16(c) can give rise
Act) by the time the company’s registration under to criminal penalties.
the 1934 Act becomes effective. Any person who
thereafter becomes an executive officer, director Restrictions on trading on
or 10 percent security holder must file a Form 3
report within 10 days of attaining that status. nonpublic information
Once a Form 3 has been filed, any change in a
reporting person’s beneficial holdings occurring Until material information is made public,
during any calendar month must be reported on company insiders (i.e., directors, officers, large
Form 4 within 10 days of the close of that shareholders and any other persons who have
calendar month. Numerous technical rules define access to material information before it is made
"beneficial ownership" (determined differently for public) may not take personal advantage of their
Section 16(a) than Schedules 13D and 13G) and access to information by trading in the company’s
regulate the reporting of securities holdings. securities. Nor may insiders "tip" others to the
existence of such information. If they do, both the
Persons reporting on Form 3 and Form 4 are insiders and the "tippees" may be liable for
subject to the "short-swing" profits provision of damages to all persons who traded in the
Section 16(b). In essence, a reporting person who applicable security during the period that trading
either purchases and sells — or sells and on inside information took place. Civil penalties of
purchases — any of the company’s equity up to three times their profits can result.
securities (whether or not registered under the
1934 Act) within a period of six months must turn To preserve confidentiality, material information
over to the company any profit realized between should be given to as small a group as possible
the highest sale price and the lowest purchase on a "need-to-know" basis. Persons with access
price during the period. This is without offset for to such information should be reminded frequently
losses, unless such security was acquired in good of the need to preserve confidentiality prior to
faith in connection with a debt previously public release. It is also highly advisable for the
contracted. Section 16(b) applies regardless of company to establish a clear policy regarding
whether the reporting person’s trading was based contacts with securities analysts, members of the
on material inside information or whether such press and others who may seek information. It
person’s overall trading losses exceeded his or may also be desirable to designate one officer as
her trading profits. "information officer" for the company and to direct
all other officers to refer analysts and others
If the company fails to sue for a recoverable seeking information to this person.
profit, any security holder may do so in the name
and for the benefit of the company. Section 16(b)
may also apply in the event of corporate

21 | StartUp Suite: The Initial Public Offering

Fiduciary duty securities) may not be resold in the public market
unless they are registered under the 1933 Act or
sold in compliance with Rule 144 or some other
State statutory and common law rules require that exemption from the Act.
transactions between a company and its officers,
directors, and large shareholders be fair and For Rule 144 to be available, the company must
reasonable to the corporation. In some meet certain public information requirements. The
jurisdictions, such parties may even be held to the company can satisfy these requirements if the
standard of fiduciaries. In addition, such related company has securities registered under the 1934
parties cannot use their position or company Act, has been subject to the 1934 Act reporting
information to appropriate opportunities for requirements of Section 15(d) for at least 90
themselves that properly belong to the days, and has filed all reports required by the
corporation (e.g., buy land desirable for the 1934 Act for the past year (or for a shorter period
company’s business expansion which the for which it was required to file reports).
company is capable of buying and might buy if it
had the opportunity). The rule permits a person who has fully paid for
and owned restricted stock for at least one year to
Similar rules apply to private as well as public sell during any three-month period up to the
corporations. However, in many private number of shares that equals the greater of 1
corporations the officers and directors are also percent of the outstanding class, or the average
the shareholders and full knowledge and consent weekly trading volume of the security during the
can eliminate the problems inherent in such four calendar weeks preceding the filing of the
transactions. However, a public offering brings in notice-of-sale required under the rule. Owners of
many new public shareholders and, accordingly, control stock may sell up to the same number of
the duties imposed on officers, directors and shares and are not required to have held their
major shareholders take on added importance. control stock for any specified period. The sales
Whenever a transaction might involve a conflict of must be made as unsolicited broker transactions.
interest between the public company and such If the amount of securities to be sold in reliance
related parties, various procedures can be on the rule during any three-month period
adopted to attempt to protect the transaction and exceeds 500 shares or has an aggregate sales
the related parties. These procedures include price more than $10,000, the seller must file Form
independent appraisals or bids, independent 144 with the SEC and any exchange listing the
board approval or possibly shareholder approval. security. Non-controlling persons who have
Since this is a risky, complex and evolving area, owned and fully paid for restricted stock for two
companies should involve counsel actively in any years are not subject to the foregoing limits.
transactions that might raise such issues.
The rule contains many technical provisions,
Sale of restricted and including definition of a restricted security, method
of calculating the two-year holding period for
control securities restricted securities and rules for aggregating
sales made by certain persons. It is also subject
Securities purchased in reliance on the "private to constant reinterpretation. Accordingly, seek
placement" exemption of the 1933 Act or counsel before sales are made in reliance on
Regulation D (which are known as "restricted" Rule 144.
securities) and other securities held by persons
controlling, controlled by and under common
control with the company (known as "control"

22 | StartUp Suite: The Initial Public Offering

Glossary of
terms

Blue-sky laws Dilution

State securities laws. "Blue-sky" laws refer to The effect on a purchaser ’s common equity
state securities laws meant to prevent suspect, interest caused by disparity between the public-
overly optimistic investments. These laws are offering price and net tangible book value per
often different from U.S. federal securities laws share immediately preceding the offering.
because they permit state officials to decide on
the merits and the fairness of the offering. Due diligence
The responsibility of underwriters and others who
Capitalization prepare or sign the registration statement to
The debt and equity structure of a company. conduct a reasonable investigation. The results of
this investigation provide a basis for their belief
Closing meeting that the registration statement does not contain
The final meeting to effect the exchange of the misstatements or omissions of material facts at its
offered securities for the proceeds of the offering. effective date.

Comfort letter Electronic Data Gathering, Analysis and

A report provided by the company’s independent Retrieval system (EDGAR)
accountants to assist the underwriters with their The SEC system designed to enhance the speed
due diligence. The report details the performance of SEC filing and make financial and corporate
of specified procedures and findings and contains information available in minutes to the financial
certain representations as requested by the community and others. Regulation S-T of the
underwriters. EDGAR rules contains the requirements and
procedures for filing electronically.
Comment letter
The letter from the staff of the SEC that describes Effective date
deficiencies noted in reviewing a registration The date on which the registration statement
statement. becomes effective and the public offering begins.

23 | StartUp Suite: The Initial Public Offering

Foreign Corrupt Practices Act Prospectus
The provisions of the 1934 Act that deal with a The part of the registration statement used as a
company’s requirements to keep reasonably selling document distributed by the underwriting
detailed accounting records and to devise and syndicate for further distribution to prospective
maintain appropriate internal accounting control investors. It includes information about the
systems. It also prohibits certain payments by a offering and the company, including specific
company or its representatives to foreign officials, financial information.
political parties or candidates.
Proxy
Green shoe Written authorization of a shareholder for another
The option for underwriters to acquire from the person to represent and vote the shareholder’s
company and resell additional shares of stock, shares at a shareholders’ meeting.
typically 15 percent of the offering to cover over-
allotments to customers and to assist in stabilizing Proxy statement
market demand. The option allows the The information required by the SEC to be
underwriters to obtain some additional stock at provided to shareholders by those soliciting
the same price as they purchased the firm shareholder proxies.
commitment stock, so they can cover excess
orders in a rising market immediately following the Quiet period
offering. The period between commencement of the
registration process and the effective date of the
Insider registration statement during which the company
Each officer, director and holder of more than 10 curtails publicity about itself, even though that
percent of any class of security registered under publicity may have nothing to do with the offering.
the 1934 Act. May also refer to others in
possession of material, non-public (inside) “red herring”
information about the company. The preliminary prospectus distributed to the
underwriting syndicate. Its cover includes a
Letter of intent legend in red ink that indicates that the
A preliminary, non-binding agreement between registration statement has not become effective.
the company and the managing underwriter that
specifies terms of the underwriting agreement. Registrar and transfer agent
An agent for the company who issues the
Managing underwriter securities sold to investors, maintains current
The investment banking firm that forms the records of all shareholders (including their
underwriting syndicate. Primary contact of the addresses) and maintains the records for
company (also referred to as the "lead subsequent transfers of securities upon resale.
underwriter").
Registration statement
National Association of Securities Dealers A disclosure document filed with the SEC in
(NASD) compliance with federal securities laws for the
An association of U.S. securities brokers and offer and sale of securities.
dealers.
Regulation S-K
National Association of Securities Dealers Sets forth required content of the nonfinancial-
Automated Quotations (NASDAQ) statement portions of registration statements and
An automated trading system and information periodic reports.
network that provides price and volume
information on securities traded over-the-counter.

24 | StartUp Suite: The Initial Public Offering

Regulation S-T Tombstone advertisement
The cornerstone of EDGAR rules which outlines A published notice of a public offering.
the requirements and procedures for filing
electronically. Transitional Small Business Issuer
A small business issuer who registered its
Regulation S-X securities using Form SB-1 or Form 10-SB (using
Sets forth required content of the financial a transitional format) and subsequently filed only
statement sections of registration statements and transitional disclosure documents using the
periodic reports. transitional disclosure format.

Road show Underwriters (Underwriting group)

A presentation, given by the underwriter and top The managing underwriter and underwriting
management in a number of cities, which syndicate that sell securities to the public.
provides the primary selling points of the
company. Underwriting agreement
An agreement between the company and the
Rule 144 underwriters that details the nature, price and size
The rule governing sales of shares by controlling of the offering. It also specifies details about
shareholders and holders of restricted stock. commissions and expense reimbursements.

Sales against the box Working group

Sales of securities that the seller owns but does The group that prepares the registration
not presently plan to deliver. statement. It consists of representatives of the
company, underwriters, legal counsel and
Securities Act of 1933 independent accountants.
Regulates the offer and sale of securities and
generally requires the filing of certain information
and disclosures with the SEC before securities
can be sold. Also referred to as "the 1933 Act."

Securities Exchange Act of 1934

Regulates the trading of outstanding securities
and generally requires the filing of periodic reports
with the SEC. Also referred to as "the 1934 Act"
or "the Exchange Act."

Securities and Exchange Commission (SEC)

The governing body that administers federal
securities laws under the 1933 and 1934 Acts.

Short sales
Sales of securities that the seller does not own.

Short-swing profits
Profits earned by an insider who either purchases
and sells or sells and purchases any of the
company’s equity securities within a period of six
months.

25 | StartUp Suite: The Initial Public Offering