swim or sink – increase in business

Thankfully, most company floatations are ultimately successful, but a small number run into major problems. Although a good team of professional advisors should be able to alert a company to any potential deal breakers at an early stage, sometimes things can go seriously wrong.

> See also: What does IPO of a company mean?

What can a float sink?

So, what can a float sink? Usually this is due to a major issue or incident that is not resolved (or simply does not happen) within the planned time frame. Assumptions are often made at the start of the admissions process that some key factors are “just legal formalities” but unfortunately some cases can prove to be far from simple.

#1 – Director Disqualification

In recent years we have seen the FCA take a tougher line on qualifications for standard listing on the main London Stock Exchange market and in particular the history of company directors needs to be closely scrutinized before an IPO can be considered. If a director has had an association with companies that have undergone insolvency liquidation or failed their regulatory obligations in the UK or other jurisdictions, the FCA will object to the IPO on eligibility grounds.

#2 – Intellectual Property Issues

Intellectual property rights can cause significant problems, especially with technology and software companies. Young companies in their eagerness to grow may overlook important issues regarding patents, trademarks and licenses. These issues will inevitably come up at the due diligence stage which is much further down the entry path. Intellectual property issues should be addressed well before starting flotation.

#3 – Permits and Exploration Licenses

Another potential deal breaker is the issue of permits and exploration licenses. Clearly this is a major issue for natural resource companies. Often the granting of such permits is a lengthy process without a fixed expiration date. This can mess with the admission process and eventually stall it indefinitely. Unforeseen problems can be caused by a number of factors, including the politics of federal as well as local governments, socio-economic considerations and in some cases religious opposition.

Land-grabbing companies must be careful to address environmental issues, especially if there is any potential for contamination. The cost of cleanup or the potential liability for returning the land to its original condition can be prohibitive and may turn away a potential investor.

#4 – Contingent Liabilities

There is also the wider issue of contingent liabilities. These are not always highlighted in the accounts and especially if the company is not subject to audit. The due diligence process may uncover certain aspects of a company’s business practices and accounting that may be open to challenge. The use of casual workers may result in a large potential PAYE or NI liability or perhaps a VAT liability due to incorrect application of certain VAT rules. Alternatively, a legal dispute with a major supplier or customer would also have a very negative effect on potential investors. All these issues need to be resolved by the company before a float can be considered.

> See also: Benefits of IPO for a Company

Latest changes to float rules

When the LSE Main Market standard listing regime was introduced in April 2010, it became a very attractive route for smaller companies seeking to IPO and gain access to a prestigious market. The market capitalization requirement was less than £1m and so it was also attractive to cash shells, more recently called SPACs (Special Purpose Acquisition Companies). Several SPACs were successfully listed in this market till the regulation changes in late 2021.

Listing rule changes by the Financial Conduct Authority in relation to criteria relating to the entry of cash shells into the Standard Markets segment of the LSE in December 2021 upon reaching a market capitalization of £30m. Obviously it is a herculean task to raise funds for a cash shell/SPAC. Although SPACs that were already “in line” for listing were allowed to continue under the old norms, those that failed had little chance to restart the process.

Sauvin & Edwards LLP worked for several SPACs that managed to “cross the line” under the old criteria.

getting the cost of things wrong

These are just a few examples of things that can and do go wrong. The cost of a failed float and fundraising can be crippling, especially in a startup situation.

While some professional advisors may be on a success fee basis, others will still need to be paid for their work from the company’s existing funds.

Given the cost of failure, companies considering a float should seriously consider doing some advance due diligence to identify and address potential deal breaker issues before starting the flotation process.

Witold Sauvin is a founding partner of Chartered Accountants Savin & Edwards LLP

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