Going public: perilous or prosperous.

BEAUTY CONTEST, HERMES TIES AND SWARMING LAWYERS: SOUNDS LIKE AND IPO IN THE MAKING. HERE'S PRACTICAL ADVICE FROM ONE INVESTMENT BANKER WHO'S SEEN HIS SHARE OF IPOS - AND LIVED TO TELL ABOUT IT.

I have probably had as much exposure to quality IPOs and the process from which they emanate as anyone around today. Based on this experience, I was asked to place myself in the role of a private company CEO confronted by the "go/no-go" choice. Like many decisions, this one will be surrounded by conflicting data and opinions.

The CEO should remember that many recommendations have a built-in bias. Lawyers, accountants, bankers, suppliers, customers, and employees all have a strong interest in the outcome. This does not mean their advice is necessarily bad, or even tainted, but it should be kept in mind as a decision is reached. Additionally, there are numerous articles about the "going-public" process, and most of them are accurate, informative, and helpful. But few, if any, discuss the "gut" issues the CEO should be addressing. The final decision in this adventure does not easily lend itself to resolution by committee.

To begin with, by the time a company is ready to go public, it is too late to do or undo many things that would make the experience easier, cheaper, quicker, or, in certain cases, even possible. In addition to complying with specific requirements such as audited financial statements, the prospectus must contain a variety of historic information, some of which may raise questions in the minds of prospective investors. The earlier in its life-time a company is managed as if it were public, the smoother the actual transition to public ownership will be. For example, in a family-owned company, early adoption of objective policies governing compensation, promotion, perks, insider dealings, and business practices will assure an easier transition to public ownership with little or no explanation or delay required. In cases where the CEO is not the owner, controlling stockholder, or part of the controlling group, adopting those policies is not always possible, and the company ultimately will suffer. The best advice to follow, of course, is to run the company in the best way, without regard to its public or private status.

The most common mistake I have witnessed is a focus on the wrong issues. The critical question should not be, "Can we go public?" but, rather, "Should we go public?" Far too often, CEOs get carried away by the romance of the process and forget that once the registration statement becomes effective, an entirely new life begins. Unfortunately, for some CEOs, the process resembles a binge in which the ongoing pain of the hangover significantly outweighs the pleasure of the party. It is for just this reason the CEO must be brutally frank in examining the facts of the decision to become publicly traded.

WHY TAKE THE PLUNGE?

There are many rationales for taking a company public, including sourcing capital, providing liquidity, generating public awareness, creating another medium of effectuate acquisitions, and deleveraging, but crucial to the decision should be the enhancement of the shareholders' value. It is imperative that the CEO understand what this means in the case of his or her particular company. Today, a sophisticated public, suspicious press, and thorough regulators should make life miserable for those not acting in the best interest of their stockholders. The CEO who ignores this precept does so at significant risk.

Having swallowed hard on the philosophical issues, the CEO must confront a flurry of practical concerns. The underpinning of the U.S. securities markets is disclosure, and the CEO of a private company must be willing to emerge from behind the secure veil that privacy provides. Data on revenues, costs, profits, compensation, and business strategy must be made public. Competitors, customers, suppliers, unions, and golfing buddies will have access to such information. One must be prepared to endure suggestions, teasing, and criticism from everyone who is so inclined. A hit play from 1924 asks, "What Price Glory?" - and the CEO, bearing this in mind, should consider the pros and cons carefully before going forward.

Since a portion of the initial public offering prospectus must address any meaningful recent transactions between the CEO and the company, one should make sure there are no "sweetheart" leases, unbusinesslike practices, or questionable transactions. To the extent that deals must remain in place, they should reflect market rates and be able to withstand scrutiny.

ASSEMBLING THE RIGHT TEAM

While most private companies already have sophisticated professional representation by the time they are of the size to go public, what of the ones that do not? As in life, in general, the "going-public" process involves trade-offs. There is no doubt that the marketplace is more comfortable with a Big Six accounting firm certifying the offeror's financial statements than having a local firm continue to do so. Engaging a "name" auditor is by no means a legal requirement, but, at best, failure to do so will create questions and often rule out participation by major underwriting firms.

While the context is technically the same regarding the selection of legal counsel, the issue is usually more complicated. Most often, the corporate lawyer is the CEO's closest counselor, advisor, confidante, and frequently, friend. How much securities experience does the lawyer have or is resident in the firm? While not every lawyer is willing to undertake securities work, those who are can be quite aggressive in wanting to represent the company. CEOs, however, will pay a hefty tuition to educate their lawyers in the arcane world of securities offerings. Having said that, I recall that one of the best "company counsel" roles I have ever witnessed came from a lawyer who had never before participated in the process. He knew the company intimately and he did no other work, beginning with the organization meeting through to the end of the offering. He made up for his lack of experience with intense preparation, commitment, and a great attitude. Whether the CEO decides to stay with historic counsel, seek special counsel for the offering, or transition to a larger firm, he or she should not be intimidated by the process and deferentially slink to the sidelines. Stay in charge and in control throughout the process.

The selection of the underwriting team likely will involve the most intense competition encountered in the process for several reasons. Often, the accountants and lawyers already will be in place; "beauty contests" and "bake-offs" are common methods of underwriting selection; company personnel very much enjoy the seductive serenade of various positioning theses, valuation models, and road-show schedules. By the time the process is finished, in addition to learning about the esoterica of public offerings, the CEO will have been exposed to:

* New insights into statistical mathematics by which any of 10 investment banks can claim to be ranked first in the same categories.

* The outer limits of print, graph, and chart preparation.

* A veritable cornucopia of sincerity.

* More patterns of Hermes ties and suspenders than were thought to exist.

In that so much has been written on the subject of selecting a banker and in light of my own obvious self-interest and bias, I shall make only three observations: The day shares are sold and begin trading in the public market is not the end of an arduous journey; it is the beginning. Therefore, choose underwriters on whom you can depend for the long haul, paying particular attention to research and trading capability and capacity. In the same way you might select a family doctor, select people with whom you feel comfortable, you like, and you trust. In the process, you make the choice. Often, the recommendations you receive are slanted by the personal considerations, obligations, or biases of your advisors. To ensure that the principal factor in the selection process is what is best for your company, you must control the decision.

The last significant decision involves the selection of directors. At least two outside directors generally are required, and there is a growing desire among academics, institutional shareholders, public interest groups, and some regulatory organizations for a majority of directors to be independent. For many private-company CEOs, this will be their first experience in subjecting their performance to scrutiny and criticism. I often have heard the refrain, "I'll still be the majority stockholder, and if I don't like them, I'll just get rid of them." While this may be technically possible, "getting rid of them" can cause problems in the marketplace and be distasteful. Thus, it is important to get good people, not the easiest task in today's litigious atmosphere.

In my opinion, many CEOs who need independent directors approach the undertaking too casually. Either they fear getting the people they need most (independent, candid, strong personalities); they choose people with whom they have a strong personal relationship without regard to professional qualifications or potential contribution; or they go about the process the wrong way. By this, I mean they think in terms of who instead of what. I always suggest that the CEO outline the skill sets he or she would like to have on the board. If, for example, the company envisions expanding into international markets, it might make sense to find a candidate with relevant experience. The trick is first to identify areas where directors' input can be particularly helpful, then look for specific individuals with expertise in those areas. Remember, also, that you are not going to get much help from "names," people who miss meetings or do not spend enough time preparing for them. Once again, the CEO should not be too deferential in this process; leadership and decisiveness are required.

THE PRICE IS RIGHT

The culmination of the offering process and its point of highest drama is the pricing session, at which the company and the underwriters meet to determine the actual price at which the securities are to be offered to the public. This will be the only time the company's price will be scientifically determined, assuming one is allowed some liberty in the definition of "scientifically." What actually has occurred is the setting forth of a preliminary prospectus of price parameters, usually at a range of $2, within which it is expected the security will be offered. As the selling effort process and the actual sale date approach, such range may be changed, principally because of changing market conditions and the level of indicated buyer interest. The end to the period of "indicated price talk" is manifested by the setting forth of a specific price at which the security will be offered.

If the process has been well-managed and the appropriate level of communication and candor maintained between the company and the underwriters, the pricing decision should be reasonably routine. It should not be a time for histrionics, ego indulging, avarice, or competitiveness. A pricing decision must be made that typically comprehends the various interests of the company, selling shareholders, underwriters, and buyers, who instantaneously become company stockholders. The wise CEO understands that it is an error to be too aggressive with the price. Initial public offerings are like newborn infants. Both are extremely delicate and fragile in the first days of their existence. Positive or negative momentum in the stock's price has significant leverage, since many investors carefully watch early trading, prepared to "pile on" in whichever direction the stock heads. CEOs should use the time leading up to the sale to familiarize themselves with the status of demand, known as "the book," the composition of the book (retail, institutional, long-term holders, and "flippers"), the state of various markets, the performance of comparable companies, and the prognosis for impending events that could affect the offering.

I remember a pricing experience with Texas investor Richard Rainwater. We were in a tough market and pricing an offering for a company Richard controlled. He asked what would happen if we priced at the bottom of the expected range, and I replied it would be tight, but the deal would get done. He then asked what would happen if we went below the low end, and I replied that the investors would recognize they were getting a good deal and act accordingly. Richard then said, "Fine. Let's drop the price even further, so they get a great deal, and they'll remember that when we do other deals in the future." I have found that type of thinking to be as far-sighted and beneficial as it is rare.

Pricing an IPO too high is not fair to the investors - and they can have long memories. Pricing an IPO too low is not fair to the company or the selling stockholders. Everyone involved tries to get it right. Dynamic markets and unpredictable events sometimes can cause severe price dislocations in either direction, but, overall, the record is pretty good. CEOs should not believe that underwriters try to do offerings at the lowest possible price because it makes their selling job much easier. In the first place, an underwriter's compensation is calculated from the price of the security. More important, poor pricing of a transaction is seized upon by competitors and is used aggressively in contests for new business.

PERSONALITY FACTOR

No single factor will influence the tenor of the going-public process more than the CEO's personality. I have witnessed cases of total delegation down to and including the pricing decisions, and I have seen cases where the CEO tried to micro-manage the entire process down to the smallest detail. The best course, obviously, lies somewhere in between. But given the choice only between extremes, I'd take the former every time. It is not an undertaking that should intimidate, mesmerize, or fascinate a CEO. It is a meaningful step in the maturity and development of a company, and the same leadership, management, perspicuity, and drive that propelled the CEO to such a position should suffice to ensure a successful offering.

When all is said and done, any CEO contemplating a public offering should solicit the best advice available, contemplate the data, and make the final calls. My view is not meant to minimize the abilities and judgment of the people around the CEO or to encourage a Louis XIV-style of management, but this is a process that requires leadership, and if the CEO doesn't take ownership from the beginning, a rough voyage is guaranteed. Most dangerous of all, of course, is the ego-driven CEO who accesses the public market for all the wrong reasons, pushing forward with a self-induced vision against all good sense and advice. These CEOs can use a dose of humility; it would be a good idea for them to remember this paraphrase of Kipling's rhetoric:

"If you can keep your head while all about you are losing theirs - then, obviously, you don't understand the situation."

A.B. Krongard is chairman and chief executive of Alex. Brown Inc., a Baltimore, MD-based investment banking firm with assets of $2.6 billion.