Initial Public Offerings for Life Sciences Companies

Planning your company’s initial public offering (IPO) can be the catalyst for many positive changes throughout the business. The IPO-preparedness process may reveal portions of your company that operate with a start-up infrastructure, and in doing so, help pinpoint improvement areas that require upgrades for the business to function as a public company.

During the IPO process, companies often underestimate the requirements and level of effort associated with completing the IPO as well as the ongoing obligations and scrutiny of being a public company.

An early assessment, however, can uncover unforeseen issues across many areas inside and outside of the organization. This process, along with focusing on the following key areas, can help your company address risk, avoid delays, and achieve transaction goals.

Develop a Support System

Assembling a support system that includes essential advisors—such as attorneys, independent auditors, underwriters, and consultants—early in your IPO process can help your company prepare for and expedite the transition.

Before building an advisory team, ask your company’s attorneys to recommend specialists in corporate finance and the stock listing process. These specialists, including printers, should be able to explain the benefits and requirements of each stock exchange and different listing strategies.

Bankers and Analysts

Identify investment bankers and leading analysts in your market space to initiate discussions about underwriting and analyst coverage. The following steps can help with the selection process:

Analyze each professional’s experience successfully executing similar IPOs in your industry
Review the quality of their investor access
Consider their research analysts, who will be writing about your business

Independent Auditors

Before choosing an auditor, determine if they have IPO-process experience, appropriate industry experience, and are committed to your timeline.

Independent auditors play a key role throughout the registration process, and it’s important to begin discussing your IPO intentions early with your auditor to help the process go smoothly. In addition, auditor independence under SEC and Public Company Accounting Oversight Board (PCAOB) rules is critical. That means, at the start of the IPO process, you’ll need to verify that you’ve selected an audit firm that is registered with PCAOB.

Either two or three years of audited financial statements must be included in the registration statement, and these statements will often be subject to additional audit procedures. That’s because the standards governing audits of public companies are different from those governing private companies.

Additional Consultants

After selecting core support-team members, you should also determine whether you have the appropriate talent in-house or if you need additional consultants to supplement or complement your team’s skillsets. These consultants could include investor-relations or finance and accounting professionals.

Review Reporting Requirements

Filing Requirements

Before preparing the registration statement, consult with your legal counsel and independent auditors to determine the appropriate financial statements to include and the key filing and reporting requirements, such as:

Timelines for financial statements
SEC requirements for financial reporting, including required audited financial statements and quarterly or stub-period financial statements that need to be reviewed for inclusion in the SEC filing
Additional reporting requirements if your company has closed recent acquisitions or other significant transactions, such as pro forma financial statements and separate financial statements related to the acquired business

Significant Accounting Policies

Before and during an IPO, your company should assess its significant accounting policies and identify any sensitive issues that require judgement. After identifying these issues, discuss them with your auditor early in the process to avoid last minute surprises.

The SEC’s hot topics issues are constantly evolving. It’s important to be aware of disclosure areas on which the SEC may place more scrutiny. You can then work with your auditor to more effectively address SEC review comments and decrease downstream delays.

Footnote Disclosures

The SEC financial statements reporting requirements include additional footnote disclosures for public companies, such as earnings-per-share and segment reporting. Your company may need to implement additional processes to gather and organize financial information necessary to support the disclosures.

A private company undertaking an IPO will generally qualify as an emerging growth company (EGC) if it meets both of the following criteria:

Has total annual gross revenues of less than $1.07 billion during its most recently completed fiscal year
Hasn’t issued more than $1 billion of nonconvertible debt over the past three years

An EGC can elect not to adopt new or revised accounting standards until they become effective for private companies. However, if an EGC elects to opt out of the extended transition period for complying with new or revised accounting standards, this election is irrevocable. That means you should ask your independent auditors which EGC accommodations to use early in the IPO process.

If your company doesn’t qualify as an EGC, consider accelerating adoption of certain accounting pronouncements, even if your company isn’t yet public.

Management Discussion and Analysis

Well before beginning IPO preparations, it can be helpful to draft your management’s discussion and analysis (MD&A) along with a critical assessment of existing financial statement footnotes.

The MD&A is an important source of information for analysts and investors who want to review the company’s financial fundamentals and management performance. Management should consider providing quantitative and qualitative measures for past financial performance of the company and forward-looking information of future projects and goals while drafting the MD&A.

Assess Your Stock Valuations

Companies preparing for an IPO need to carefully review their option pricing history. The SEC will typically focus on the twelve-month period prior to the IPO date, though circumstances may cause them to review awards and valuations done in the prior two or three years.

During a review, the SEC will closely analyze your company’s option exercise prices if they’re significantly less than the price of other equity instruments sold near the dates of option grants. Additionally, for options with grant dates close to the IPO, the SEC would expect exercise prices approximating the IPO price.

Rapid increases in common stock value just before the IPO and significant gaps in value from the eventual IPO price are likely to result in more SEC scrutiny. The valuation should detail the factors considered and tell a story about how the company’s fair value of common stock was derived over the twelve-month period prior to the IPO date. This detail is especially important because any scrutiny is likely to take place after the valuation date when subsequent events are known.

Stock-Based Compensation

The SEC often focuses on cheap-stock issues in connection with IPO preparation. Cheap stock refers to equity-instrument issuance that typically occurs 12–18 months prior to an IPO for less than the expected IPO price. This issue usually arises in connection with granted employee stock options and often results in the recognition of additional stock-based compensation expense. During this process, it isn’t uncommon to record restatements of prior-period financial statements and additional stock-based compensation associated with cheap-stock grants.

During this analysis, the SEC is interested in the rationale for any difference between the fair value of the underlying common stock of stock awards and the anticipated IPO price. That means it’s important to carefully review your option pricing history. The SEC will closely scrutinize instances where option-exercise prices are significantly less than prices of other equity instruments sold near the dates of option grants. The closer the grant dates are to the IPO, the more intense the SEC review.

An experienced, independent valuation professional should perform regular stock valuations 12–24 months prior to the IPO. They should establish valuations using approved valuation models and supportable assumptions. A contemporaneous common stock valuation report from a third-party valuation specialist can sometimes lessen SEC scrutiny.

In many instances, it’s important to ask your auditors for referrals to professionals with whom they’ve had good experiences in the past. Selecting a professional who doesn’t have the proper experience or who uses improper methodologies may result in significant additional audit costs and may trigger a challenge from the SEC, leading to delays in the IPO process.

Establish Internal Controls over Financial Reporting

Your company should understand how internal controls over financial reporting (ICFR) can impact the SEC’s review and be prepared to discuss the business’ remediation plans for identified deficiencies with underwriters and the SEC.

The Sarbanes-Oxley Act

It’s important to proactively work with attorneys to understand compliance requirements under the Sarbanes-Oxley (SOX) Act. If necessary, you can then establish additional internal infrastructure and processes to comply with requirements and provide evidence of compliance.

It can be helpful to engage an accounting or consulting firm well before the IPO for assistance developing processes, compliance testing, and additional insight.

Strengthen People, Policies, and Procedures

Your company’s people, policies, and procedures are the building blocks of its success—and often the most valuable asset during an IPO. Sound corporate governance is critical for any public company. Here are a few areas where your company can benefit from taking action early in the IPO process.

Board or Corporate Governance

Analyzing corporate governance and board-member roles prior to the IPO can help your company strengthen its leadership and identify any changes necessary to satisfy exchange listing and SEC requirements. These changes could include the following:

Introducing a financial expert to the audit committee
Reassessing the composition of your corporate governance or board
Reviewing independence and remuneration of the board of directors
Drafting charters for any committees as needed, such as audit, compensation, governance, and others

Infrastructure

Develop policies and reporting processes to strengthen your company’s infrastructure and comply with legal, SEC, and listing exchange reporting requirements that are financial and nonfinancial in nature, such as:

A code of conduct
Whistle-blowing reporting and monitoring procedures
Insider trading and stock trading policies that include lockup agreements
Appropriate cash-investment policies to comply with Investment Company Act considerations
Public disclosure requirements

Independent Directors

It’s important to establish a balance of relevant skills, experience, and insight among your company’s independent directors. This balance should bring real value to the table in boardroom discussions.

Management and Employees

Assess your company’s management team and employees to determine if they have the appropriate expertise to facilitate the operations and reporting necessary as a public company. Specifically, your employees should have the skillsets for various functions, including:

Legal
Public relations
Human resources
Payroll and stock administration
Accounting and finance, including SEC reporting

Compensation

Analyze whether executive compensation and employee benefits structure, including equity and nonequity incentives, are appropriate for a public company. If you’re unsure, consult a professional who can analyze your compensations and benefits package and recommend changes before going public.

Consider pointing employees toward seminars or other resources to educate them about the personal tax impact of stock options, restricted stock grants, and other compensation.

Loans your company has made to executives or directors are recommended to be repaid before filing the Form S-1 with the SEC, so advance planning is essential.

Build Public Communications and Investor Relations

The following three factors can help your company navigate its communications and investor relations approaches during or prior to the IPO:

Communications policies. Discuss with your attorneys the rules that govern public communications during the IPO process and after your company is public.
Investor relations. To remain compliant with SEC regulations, identify and plan out investor relations material, such as press releases, timelines, and review processes.
Website content. Work with your attorneys to verify corporate website content is consistent with SEC positions on acceptable public communications.

Prepare for Due Diligence

During an IPO, underwriters and their attorneys will likely perform extensive due diligence reviews on your company, including a thorough review of legal documents such as minute books, capitalization records, and material agreements.

That means it’s important to facilitate reviewer access to, and completeness of, the company’s corporate documents and contracts, including:

The provisions of your current charter, bylaws, and articles
Key terms, such as registration rights and stakeholder or third-party approvals
Automatic preferred-stock conversion over a certain threshold
Lock-up agreements

Consider Additional Legal and Tax Factors

Along with the above considerations, there are several steps your company should take to address legal and tax areas before going public.

Material Commercial Agreements

Assess material commercial agreements your company may be required to publicly file with the SEC and review them for confidentiality clauses. These clauses may require waivers from the counterparties involved as well as competitive and proprietary information, which, if disclosed, could harm your business. That means it may be beneficial to seek confidential treatment from the SEC.

Threatened Litigation

Discuss and strategize with your attorneys how ongoing and threatened litigation, if any, should be disclosed in public filings.

Liability Insurance

Coordinate with insurance brokers early in the IPO process to determine if officers and directors are adequately protected. It may be advisable for the company to purchase additional director and officer-liability insurance.

Tax Jurisdictions

During the IPO planning stage, it’s beneficial to work with tax accountants to review tax compliance, transfer pricing, effective tax-rate reporting, and expanded income tax disclosures in the financial statements. A tax professional can provide early advice on the impacts of tax reporting and withholding, which can save your company time and money in the long run.

How to Prepare, Strengthen Your Company Prior to an Initial Public Offering