A privately owned company grows by "going public." The company raises funds by selling ownership interests in the company to the public at large. 

This is done through an initial public offering of securities or "IPO." The securities can then be traded in a secondary market, such as a stock exchange.

Securities Offered

The securities offered in an IPO can include:

  • Shares of stock in a company
  • Bonds
  • Notes
  • Debentures or certificates
  • Evidences of indebtedness
  • Limited partnership units
  • Memberships
  • Other types of investments in a company

When to Go Public

A public offering can be very complicated. It's generally not done by a company until: 

  • The company proves it has a profitable business model that will work on a regional, nationwide or even international level
  • The company has a strong business plan. The plan must state clear objectives on why it wants to go public. These objectives may include raising millions of dollars to fund an expansion

Much of the time, it's not a good idea for a new, small corporation to make a public offering of stock. Issuing an IPO is very expensive. And it may hurt the corporation's performance.

If the offering is too small, it may create a thin market for the stock. This reduces its value and makes future financing more difficult.

A public offering may also expose the corporation to unwanted scrutiny. Plus, a new corporation might not produce high enough earnings per share, which hurts its market reputation.

Securities Regulation

All stock offerings are subject to federal and state securities laws. They require an offering to go through a difficult registration process.

Two federal laws that apply to an IPO are:

  • The Securities Act of 1933. This law requires a company to fully disclosure of all material facts relating to the stock offering. The company must give investors all information important to making an investment decision. The company must also file a registration statement with the Securities and Exchange Commission (SEC) that includes this information
  • The Exchange Act of 1934. This law requires publicly held companies to continually disclose information about their business operations, financial conditions and management. These reporting requirements are rigorous and continuing. They may apply not only to a company itself, but also to officers, directors and significant shareholders

Each state also has laws that apply to stock offerings. These are sometimes called blue sky laws. They're designed to protect the public against offerings that sell nothing more than the "wild blue yonder."

Providing Information

A company uses a document called a prospectus to disclose all facts about an offering, as required by securities laws. A prospectus can be extremely detailed and lengthy.

In order to make an IPO, the corporation must file a registration statement with the SEC. There is a 20-day waiting period before the registration becomes effective. During that time, the SEC reviews the registration statement and points out any deficiencies. After that time expires, the issuing corporation can sell the stock.

Severe civil and even criminal penalties apply if you don't follow the securities laws. Investors who prove they were cheated or misled can collect money from your company. Misrepresenting the facts or failing to follow the securities laws can entitle an investor to a full refund, plus interest and attorneys fees.

Brokerage House

Given the complexity of an IPO, many companies contract with a brokerage house to underwrite the offering. The brokerage house helps place the stock to be issued.

Sometimes, the brokerage house guarantees that a certain amount of capital will be raised. The brokerage house expects to raise more than the guaranteed amount and pocket the difference.

Questions for Your Attorney

  • When is buying stock through an initial public offering a good investment?
  • What kind of securities can be sold in an initial public offering?
  • What information does a corporation making an initial public offering have to give potential investors?