Is It Time for Your Public Company to
“Go Private”?

By Barry J. Siegel

This article first appeared in the December 2004 issue of The Technology Times, a publication of The Eastern Technology Council. It is reprinted here with permission.

One result of the sweeping reforms of the Sarbanes-Oxley Act (“SOX”) and the resulting revisions of the NYSE, NASDAQ and AMEX rules is that many public companies, especially small and mid-cap companies, are evaluating the benefits of being public. As has been well documented in many articles and as, all too painfully, many of our readers have lived first-hand, SOX and the stock exchange and market rules have resulted in steeply increased compliance costs, management time and other expenses. The potential benefits of being private are significant and include:

• Reducing legal and accounting expenses;
• Reducing costs associated with annual reports and other shareholder communications;
• Eliminating management focus on SEC disclosure and compliance requirements;
• Reducing management attention to annual reports and other shareholder communications;
• Reducing pressure to manage the company “quarter to quarter”;
• Reducing directors and officers insurance premiums;
• Potentially providing increased ownership and compensation to management;
• Reducing risk of shareholder litigation; and
• Providing more flexibility in board and committee composition and engaging in related-party transactions.

In addition, many smaller public companies believe that because of the lack of analyst coverage and light trading volume, that their stock is severely undervalued. This undervaluation can have strongly negative effects on employee morale and public perception of the company to competitors, customers and others.

Going private transactions are not for many public companies, however. While in the long-term, management time and attention will be significantly freed by being private, the going private transaction itself, depending on the form chosen, can be a very intense and time consuming process. A key component to completing the going private transaction is securing the necessary financing. Virtually all transactions require management or the equity sponsors to provide equity capital and the balance of the purchase price is funded through debt. Many transactions use a combination of debt, typically, a revolving credit or asset based line that has a senior lien on all assets and a comparatively low interest rate; term debt with a maturity of typically five to seven years, secured by a second lien position and carrying a somewhat higher interest rate; and mezzanine debt that stands below the other debt in seniority, carries a higher interest rate and usually has some form of equity kicker.

Before moving forward with a going private transaction, a company also should carefully consider the operating restraints it may be under if forced to carry and an additional debt burden. Lenders of private, leveraged companies typically require strict financial covenants that limit a company’s ability to, among other things, make acquisitions and capital expenditures and pay certain compensation to its executives. Going private transactions may also not be the best choice for particularly acquisitive companies or companies that intend to raise additional equity capital in the near future. The fact that a company’s stock is not publicly traded will limit its ability to acquire other companies using equity and will hamper its ability to raise capital. Companies may also have difficulty attracting and retaining top employees if they can’t offer options for publicly traded stock.

A going private transaction can take many different forms, including:

• A tender offer by the issuer or an affiliated entity;
• A cash merger where the company merges with another entity controlled by the majority shareholder or acquiring group; and
• A reverse stock split where shareholders owning less than a specified number of shares are cashed out.

The form of a going private transaction will have significant impact on the cost, timing, disclosure and approval requirements of the transaction. The standard of scrutiny a court may apply if the transaction is challenged also may change depending upon the structure of the transaction. Careful planning should go into analyzing all potential options and selecting the one that best fits your company’s particular situation.

If you are considering a going private transaction you should, among other things:

• Appoint a special committee of independent directors;
• Consult with experienced legal, accounting and financial advisors;
• Be careful as to the specific actions you take as you don’t want to be obligated to publicly disclose the transaction before you are committed to move forward and once a transaction is announced your company will be “in play” to competitors and buy-out firms; and
• Keep accurate and detailed records of all corporate proceedings.