All you wanted to know about going private

The latest exploit from Elon Musk, the much-adored CEO of electric vehicle maker Tesla, has landed him in hot water with the US regulator, market commentators and investors. On August 7, he tweeted about his intention to take Tesla Inc private. But Tesla’s stock price was battered after he failed to announce concrete plans for going private.

When a firm that is fully owned by its promoters goes public for the first time, it sells shares to public investors and institutions through an Initial Public Offer and lists on the stock exchanges. A company going private does exactly the opposite. Its promoters or private investors buy out the shares held by public shareholders, to stop trading on the exchanges. Musk had indicated in his tweet that he intended to buy back Tesla shares at a price of $420 a share, an 18 per cent premium to its prevailing market price. That’s what triggered the jump and then the retreat in the stock price.

In the US, public companies with less than 300 shareholders can delist from the exchanges after applying to the Securities Exchange Commission (SEC). Companies with shareholders in excess of this number need to buy out public shareholders at a mutually agreed price. In India, companies seeking to delist need to go through a reverse book-building exercise, where the promoter or private investor buys up all the shares held by the public at a price decided by a bidding process.

Given that a public listing gives a company visibility, publicity and the ability to raise money from the markets at will, why would any listed company go private? Musk’s reasoning is that going private will allow Tesla to focus on its long-term, visionary business plans instead of sweating to deliver the quarterly numbers that stock market analysts are so keen on. After all, Tesla’s plan in the long run, is not to be another car manufacturer but to run automated ‘giga-factories’ that churn out cars, trucks, mass transport vehicles, solar products and batteries that hasten the world’s adoption of sustainable energy. He also seems to be vexed with sceptics in the market who keep betting against the Tesla stock, on the view that its plans are too grandiose.

Both globally and in India, quite a few companies have gone private in recent years to sidestep the rising disclosure and compliance burden imposed on listed firms by the regulators, after accounting frauds such as Enron and Satyam. Some consumer companies in India, such as Cadbury India and Reckitt Benckiser have gone private to prevent competitors from getting a dekko into their strategic plans.

While regulators are generally open to the idea of listed companies going private provided they follow due process, they like to ensure that public shareholders get their exit at a fair price. The US SEC is frowning upon Musk’s tweet because it isn’t clear yet who will bankroll the buyout, which some analysts think can cost up to $70 billion.

A company’s decision to go private can often mean windfall gains for shareholders, as they usually get to cash out at a hefty premium to the market price. In India, reverse book-building offers from multinationals often see their share prices shoot through the roof, with investors building in a high premium for exit. But the trend of popular widely-held firms looking to go private isn’t a healthy one for investors at large as it would mean a shrinking supply of quality stocks to invest in.

Thought doing an IPO is hard? As Musk’s finding out, reversing it is even harder.

A weekly column that puts the fun into learning.