Thursday, July 11, 2013

Part II - The back five of our Common but Easily Avoidable Mistakes list

Oh ye of little faith.  Here you were thinking we were only offering up Part 1, when in fact we just figured we should give everyone time off for the Fourth.  On with part two:  Items 6 through 10 of mistakes newly public companies should really - no REALLY.  try to avoid.

 If at all possible, do not:

6.       Change your story:  If you go public as a SaaS provider with predictable earnings, do not even think of repositioning to be a mobile, big data play because those multiples are higher, or for any other reason.  Investors will be rightly alarmed if during the first couple of quarters as a public company, a recent IPO:

o   Changes the model or strategy communicated during the roadshow
o   Changes management or
o   Makes a major acquisition (with exceptions)

Early changes to the business model or strategy communicated during the IPO scare investors.  They took of leap of faith and invested with your risky offering of a new issue because they literally bought into the story you told on the road.  Not surprisingly, they expect you to stick with that plan now that their money lines your company's bank account. 

Investors also expect companies to have the right executives in the right seats before the IPO.  Swap a key player out too quickly and your new shareholders will cover the field with yellow, if not red, flags, reasoning that early changes signal big problems.   The same often, although not always, applies to material acquisitions in the early going unless a) you were clear in the S-1 that acquisitions were a likely use of funds or b) you can make a very strong case for why the move is brilliantly opportunistic.  Don't let your new investors think that their money is burning a hole in your pocket, or that you are taking your eye of the main business.  Know that even though they bought at the IPO, they are not really invested until they see several quarters of consistent, "as billed" performance.

In the words of one top institutional shareholder with whom we recently spoke,  “the first 6 months are the honeymoon.  Management should be solely focused on running the business and delivering. Small R&D acquisitions are okay but nothing big".  Deliver what you promised early and the credibility earned will carry you a long way down the road.

7.       Overwhelm or underwhelm with metrics.  Investors need to be able to track a young public company's progress and really understand the mechanics of the model.  That means they need to follow at least some of the key indicators that you watch; those that don't appear on any formal financial statement.   Too little info equals too much risk.  However, here's where it gets tricky.  It's also possible to share too much.  Companies that release pages of data points end up wasting investors' time, as the chaff/wheat balance is out of whack.  

Smart companies put significant effort into determining the right balance for sharing information that will be genuinely helpful to investors but not terribly useful for competitors.  Investors will always clamor for more - or at least the same info that the competition shares, but companies should define their own playing field rather than letting competitors do so. The key is to explain why you give the metrics you do AND to be equally clear about why sharing others will not be helpful.

Why? Here's a recent example.  In our conversations, investors singled out PANW as a company hurt by its lack of clarity.  When the company missed street expectations last quarter, investors lacking the right metrics, could not determine the root cause of the problem.  Long-term investors expressed frustration with the company's lack of transparency and that made a bad situation worse.

Portfolio managers generally believe that a company providing fewer metrics than its peer group is less investor friendly, believing that reduced disclosure creates uncertainty and volatility.  They may be right or wrong on this as, when you think about it, missing more target numbers may not actually be better than missing fewer, but hey; it's what they believe.  So, be ready.  Study what peers disclose and if necessary, be ready to explain why you have chosen a more relevant path.

8.       Talk about your valuation:  This one is simple. Management should, in the words of Taylor Swift, never, ever, ever talk about valuation.  Talk about the company's prospects, talk about products, technology and the go to market strategy, talk about great new hires and customer wins, but do not talk about the valuation of your stock. That's sort of like lecturing Coach K on game strategy.  The audience knows exponentially more about this topic then management ever will.  Management should talk about the business and let investors decide if a stock is a good investment

9.     Fail to provide focused and informed IR:  IR really matters. No let us restate that:  if you have good, reliable, informed IR, it can really matter.  Don't take the easy route or under invest in the function internally. Investors tell us that short-term thinking will come back to bite you if [when] the going gets tough as they will seek reassurances from spokespeople they know and trust to be in the loop.  Better plan: get to know your top investors and develop a strong, direct dialogue.  You will learn as much from them as they do from you.  There is no substitute for having a strong, always-in-the-know, dedicated IRO - just ask your investors.

10.   Be ubiquitous:  Most young companies are invited to speak at one or more conferences sponsored by each and every bank on the cover of the IPO prospectus. They are also invited to speak at an endless list of other investor events and constantly encouraged to do non-deal roadshows.  In the early quarters, if the story hasn't changed much from the original pitch, just say "No".  Investors want you focused on delivering results, not speeches.   Even after the first few quarters, trust that generally, less is more. After a few presentations, the returns not only diminish, they approach the horizontal axis.  Attend a couple of key investor events each year to keep your investors informed and as a thank you to analysts for continued coverage.  Supplement that with a couple of non-deal roadshows.   Other than that, meet with investors when you have something new and interesting to say.  They will appreciate that you are using both your and their time well.

We pulled this list together based on many conversations with top investors and seasoned with our own experience.  We've watched many companies learn the hard way. Here's hoping this short cut is helpful.

Oh, and one more thing.  In addition to interviewing the buyside regularly, we run a business.  Therefore this is the part where we remind you that if the unexpected happens, you unavoidably stumble or did not read Parts I and II in time -- feel free to call us for help with Part III “How to get a good company back on track in the public markets.