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R.I.P. The IPO


For companies, privacy has its privileges.


In the 1990s, entrepreneurs dreamed of IPO riches. Now, the smart move for a new company may be a buyout, or simply remaining private.

Thanks to Sarbanes-Oxley, signed into law in 2002 following the Enron and WorldCom accounting scandals, the lure of going public has diminished. Compliance is expensive and being publicly traded may be more trouble than it's worth, especially for small- to mid-sized companies.

The irony: Sarbanes-Oxley, intended to force full disclosure, encourages some companies to remain private or to accept a buyout offer from a private equity firm. Privately held companies aren't required to file quarterly statements with the Securities and Exchange Commission (SEC). The result: Less disclosure.

Major companies that recently went private after being public include Hospital Corporation of America, the largest for-profit hospital operator in the United States, as well as Harrah's Entertainment, the world's largest gaming company with about 50 casinos. Clear Channel Communications (CCU), the number 1 radio company in the nation with about 1,000 stations, has agreed to be taken private by Thomas H. Lee Partners and Bain Capital.

The reasons for going private vary. Hospital Corporation of America faced increased competition from specialty hospitals and declining revenue. Harrah's received a good premium on its stock price. Clear Channel said it was undervalued by the public equity markets.

A few companies may be poorly run; a buyout firm may take them private with the intention of punching them into shape and re-launching them in the future via an initial public offering (IPO). Private equity firms took Time Warner's (TWX) music business private in 2004 when it was in the doldrums. The buyout partners boosted revenue and earnings; less than two years later , they re-launched the company publicly as Warner Music Group (WMG).

But don't expect a cascade of similar deals. The current downbeat market has produced only 40 IPOs so far this year. For comparison, 279 deals were priced in 2007; in 1999, a record 543 deals were brought to market.

This isn't a conspiracy. Demand for technology is slow at the moment, and the IPO market loves tech - recall the Internet mania of the 1990s. So it's not surprising that, for the first time since 1978, there were no venture-backed IPOs in the second quarter of 2008; there were only 5 venture-backed deals in the first quarter. With the return on stocks low, the smart money looks toward private equity.

In some cases, the cost of operating as a publicly traded company can outweigh the advantages.

Cost-U-Less went public in 1998, but the company -- operator of about a dozen warehouse stores in Hawaii, the U.S. Virgin Islands, American Samoa, Fuji and other islands -- failed to meet stockholders' performance demands.

In a letter sent to the firm last year, Delafield Hambrecht, a Seattle merchant bank and holder of about 9.5% of the company's stock, said: "We maintain that our capital would be better utilized by realizing fair value through a sale of the company today than by continuing to wait for new investors to embrace a small, illiquid company whose capital is chewed up by the cost of being public."

Cost-U-Less was taken private about a year later.

Well-known privately held companies include Cargill, Ikea International, Hallmark Cards, Mars, Publix Super Markets, Bechtel, TRW Automotive, Ernst & Young and Swift.

The Blackstone Group's (BX) IPO provides ironic counterpoint to the public-private debate. The company made a fortune taking other companies private. Did its IPO last year make a mockery of all the arguments about why it often makes sense to be a private company?

In its registration statement with the SEC, Blackstone said:

"We have built a leading global alternative asset management and financial advisory firm that has achieved success and substantial growth. While we believe that becoming a publicly traded company will provide us with many benefits, it is our intention to preserve the elements of our culture that have contributed to our success as a privately-owned firm."

Well, that settles it.

Blackstone's billowy language is reminiscent of Google's (GOOG) modest assessment of itself when it went public: "Google is not a conventional company. We do not intend to become one…We have designed a corporate structure that will protect Google's ability to innovate and retain its most distinctive characteristics."

That included two-tier ownership that gave founders Larry Page and Sergey Brin voting control far beyond their equity holdings. Come to think of it, that's similar to the voting structure at the New York Times (NYT) that drives some analysts nuts.

Or maybe Blackstone's IPO is just an exit strategy, the core theme of many IPOs. Whatever the reason, Blackstone's IPO is poetic and makes you smile - in private, of course.

For a list of advantages and disadvantages inherent in either corporate structure, click here.

No positions in stocks mentioned.
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