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The public-private debate

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From the “grass is always greener” department: According to a survey released earlier this week by executive compensation firm Clark Consulting, 80 percent of 209 public-company executives and employees polled would rather run a private company than a public one. After a decade in which everyone — opinion magazines, uranium processors, for-profit universities, venture capital funds, and business incubators — sold shares to the public, this would seem to be a pretty big culture shift.

InsertArt(2003234)THE CULPRITS are many: Last year’s Sarbanes-Oxley Act has imposed new costs and obligations on publicly held companies, executive compensation is suddenly under a microscope, the plaintiffs’ bar is ravenous and aggressive, and insurance companies are boosting premiums for insurance policies that cover directors and officers. “I think there’s a definite sentiment out there that it’s a pain in the neck to run a public company,” says Tom Wamberg, chairman and CEO of Clark Consulting.

If being public today is so miserable — especially as a result of recent policy shifts — you would think that executives would be fleeing the red-hot glare of the public bourses en masse. And to some extent that has happened. Through August, according to Factset Mergerstat, 79 publicly traded firms filed with the Securities and Exchange Commission to go private — up 33 percent from the first eight months of 2002. But even if that pace continues, the 2003 total will likely be fewer than in 1999 (151) and pretty close to the 2001 figure (124). And these numbers represent a small amount of attrition. There are about 7,000 publicly held companies on our primary exchanges — roughly 3,600 on Nasdaq, 2,800 on the New York Stock Exchange, and 687 on the American Stock Exchange. The major exchanges collectively lose more companies to Chapter 11 bankruptcy (257 in 2001) than they do to companies going private.


To be sure, some well-known large companies have left the scene. In April, Dennis Gillings, the chairman of the board of Quintiles Transnational, a large drug-testing firm, teamed with private equity partners to take the company private for $1.8 billion. But many of those dropping out are marginal players who have essentially failed to attract investors. In an article on the trend last week, Investors Business Daily told the story of Tumbleweed Inc., the parent company of the Tumbleweed Southwest Mesquite Grill & Bar chain. Since going public in 1999, Tumbleweed’s stock has withered from about $8 to about $1. Even though it has about $50 million in sales, Tumbleweed sports a market capitalization of less than $7 million — not nearly enough to attract serious investors. Tumbleweed’s experience is unlikely to lead anyone to believe that investors are being denied access to great companies with fabulous prospects as a result of the new going-private trend.

There are — and always have been — costs associated with being public. You have to maintain an investor-relations apparatus, hold annual meetings, pay directors, and comply with the SEC regulations. The costs add up to several hundred thousand dollars, which can be onerous to smallish companies. And Sarbanes-Oxley is surely responsible for an increase in these expenditures. Then there’s directors and officers insurance, which, post-Enron, has soared for companies of all sizes. At Clark Consulting, which has never had a claim against its directors and officers, premiums rose from $400,000 to $1 million in a year, says Tom Wamberg. And when you’re a small company located a bit off the beaten path, it can be difficult to round up the independent directors that Sarbanes-Oxley requires you to bring on board.


Nevertheless, the overwhelming majority of executives find that the benefits to remaining public far outweigh the costs. Publicly held companies have a currency they can use to make acquisitions. It’s difficult to attract and retain the top employees you might covet without the lure of liquid stock options, which most privately held companies can’t offer. And among private companies, it’s tough to become a centimillionaire without either putting your own money at risk or selling your stake entirely — a feat many CEOs at large publicly held companies have managed to pull off through the liberal use of options.

Most important, for all the scrutiny surrounding executive behavior at public companies, public shareholders are in fact still more forgiving then the types of owners executives would have to contend with if the firms were private. After all, you can’t simply wave a magic wand and transform a publicly held company into a private one. Management-led buyouts typically involve enlisting outside investors or borrowing heavily from banks. And these characters tend to be far tougher negotiators than the mutual funds and individual investors who so reliably gobble up initial public offerings and secondary stock sales.

Today, the S&P 500 trades at a multiple of about 28 times earnings. But the banks and funds that provide the cash for management-led buyouts typically aren’t willing to place anywhere near the same value on the deals they back. And since they’ve got a lot of skin in the game, they tend to ride some tough herd on expenditures, budgets, and compensation. In essence, for many, going private would result in exchanging a set of bosses who have suddenly become somewhat tough for a set of bosses who have always been much tougher.

The grass may seem greener on the private side of the fence. But for virtually all publicly held companies, there’s more green in the public commons.

Daniel Gross writes Slate’s “Moneybox” column.