Block 4: The Road to Publicity
Let’s go back to circa 2008. Picture Mark Zuckerberg working tirelessly in his dorm room to perfect Facebook. It is growing so fast he doesn’t have any more money to support the expansion, so he decides to “go public.” So why doesn’t Uncle Ned ‘go public’ when he runs out of landscape jobs? Well, the process and qualifications are fairly stringent. For instance, the New York Stock Exchange (NYSE) requires at least $4.5 million in pre-tax income to IPO (initial public offering aka ‘go public’). So not every company has the luxury (or obligation in some cases) to participate in the public markets.
This is a gigantic step in the journey of a business. Very few companies go public, in fact, usually only the best and biggest do. There are around 4,500 publicly traded companies vs. around 6 million businesses in the U.S. alone. Pretty much every big business that we interact with daily is public aside from Patagonia (*a generalization). Facebook, Amazon, Google, Apple, Nike are all public.
Ok, back to Zuckerberg. He decides to “go public.” He starts the process by finding good investment bankers and asking them to help. The investment banker’s job is to underwrite. This means that they assume responsibility for the shares. (A share is just a unit of stock much like how an inch is a unit of measurement). Then the investment bankers go around to a bunch of big-name banks and investment funds and ask them if they’d like to invest in Facebook. This is called the “road show.” This drums up excitement and allows the bankers to get a feel for what the public (meaning you and me but really meaning big bankers) would pay for Facebook’s stock. Then a price per share and IPO date are set for Facebook.
[Again, IPO stands for initial public offering and it is the event when a company becomes publicly traded (also when the company founders can opt to lay on a bed of roses being fed grapes for the rest of their existence, but c’mon these people are entrepreneurs, they wouldn’t do that!). Excuse the tangent.]
Back to IPO’s. For instance, there have been quite a few newsworthy IPO’s lately, including Dropbox, Spotify, and further back, Snapchat. Remember how we said Zuckerberg wanted to “go public” so he could continue to grow his business? When a company IPO’s or goes public, the proceeds from selling the shares of stock result in cash for the company. Only during the IPO does a company actually receive cash. When you or I buy shares of Facebook today, we are not giving Facebook our money, we are giving the person who sold their Facebook shares the money. Facebook only receives cash during the IPO or if they offer up more of their company later down the road. This is an important distinction but if you like the idea of giving your money to Facebook better than that day-trader who screams all day at his computer, I’m not going to stop you from believing that.
So now we have a handle on the whole IPO/going-public process, but what does that have to do with us as investors? Glad you asked…