Reverse IPO rumors riddle tech sector

A few years ago, a tech start-up’s success hung in the balance of its IPO. In the past several months, however, money spent on acquisitions outpaced public offerings by better than six to one, according to research by both Dow Jones VentureOne and Thomson Financial.

In an unusual market trend, large public tech companies, tired of dealing with the near-term expectations of day traders and the stock market, as well as the long-term headaches of Sarbanes- Oxley compliance, are toying with the idea of retreating to the private world.

Deals currently buzzed about in Silicon Valley rags and major national newspapers include private equity buyouts of public tech giants such as Dell (Nasdaq: DELL), EMC (NYSE: EMC) and Yahoo (Nasdaq: YHOO). The trend was teed off by a $17.6 billion buyout of Freescale Semiconductor by The Blackstone Group in September 2006. On Jan. 23, it was announced that private equity powerhouse Kohlberg Kravis Roberts invested $700 million in Sun Microsystems (Nasdaq: SUNW).

In the past, private equity firms would acquire struggling companies, restructure them to make them profitable and then take them public again under a new, debt-free structure. Tech buyouts change the mold a bit. Large public tech companies aren’t struggling; they tend to have relatively stable growth, strong cash flow and a profitability that allows them to take on debt in a leveraged buyout. The new tech buyout is about profits for both the private equity investor and the public company.

According to those familiar with the buyouts, avoiding the time and expense of Sarbanes-Oxley compliance is not the only motivation for companies to be private. “It’s not so much the hassle from auditors,” says Marc Folladori, partner in international law firm Mayer, Brown, Rowe & Maw. “It’s mostly the costs that the more intense regulatory regime has placed on smaller public companies that don’t have a large financial, accounting and administrative staff.”

Folladori also cites staff retention problems. Smaller companies can’t keep good talent when their finance and accounting staff, overworked from all the additional requirements, keep heading to larger companies that have a need to ramp up their finance and accounting teams, he says. Rita Gunther McGrath, an associate professor at Columbia Business School and co-author of “The Entrepreneurial Mindset,” points to the incredible amount of money now available to hedge funds and private equity investors.

“By taking a company private, changing its management and/or operations, and then exiting via a new IPO, private equity investors can reap enormous financial rewards,” she says. “It used to be that you had to be public to undertake certain types of long-term investments, and that is no longer the case.”

McGrath also notes the executive motivation for the public-to-private shift. “I think we have forgotten the level of scrutiny and public attention given to the senior executives of public companies,” she says. “It’s more like being a public official or a celebrity these days, and for many of these managers, working for a private company is a blessed opportunity to tell the business press as little as they like and keep their affairs to themselves.”