What Is a Private vs. Public Company? (With Pros and Cons)
Updated October 16, 2022
If you want to start a company or if you currently manage one, you may wonder the answer to: "What is a private vs. public company?" The differences between these companies affect their overall processes and culture. By knowing these differences, you can establish a company that coincides with your career goals and aspirations. In this article, we discuss the definition of private and public companies, provide you with information about the differences between them, examine the advantages and disadvantages of private and public companies, and answer several frequently asked questions about these company types.
What is a private vs. public company?
Knowing the answer to, "What is a private vs. public company?" helps you establish the right direction for a company. The ownership of private companies, otherwise called privately held companies, remains with their investors and founders. Private companies don't sell shares to the public through stocks, while public companies sell a portion of their company to the public through the stock exchange. Public shareholders have stakes in the companies in which they invest. There are some similarities between public and private companies. In public companies, managers can own shares of the companies they work for, and many public companies include specifications about buying shares in employment contracts.
Both types of companies have annual meetings and a board of directors for which members within the company consult and develop reports.
Differences between a private company and a public company
Here are some of the key differences between private and public companies:
Capital and liquidity
The primary difference between public and private companies is that public companies generate income by sharing stocks with the public, which allows the public to invest in the company. Private companies differ because they issue stock to existing stockholders or employers. These stockholders are typically those who initially invested in the company. Private companies can obtain funding from public shareholders under specific requirements. When they do meet those requirements, these professionals typically have limits on the amount of money obtained.
Public companies have fewer restrictions and more access to public markets. This helps them obtain funding from the public and results in more capital raised. This is a primary motivation for those considering whether they want to begin a private or public-funded company. These companies use the generated funds for acquisitions, growth, and innovation.
Ownership of shares
Public companies offer shares of their stocks to the public. Private companies may, in some cases, offer shares to their employees or existing investors. An advantage of being a public company is that many shareholders collectively hold investment equity. The public also has some stake in the companies' overall success.
Typically, public companies are very large. That is because corporations usually go public after they have reached a private valuation of at least $1 billion. For a company to become public, it has to be generating revenue and have a clear capability of growing in the future. In almost all cases, a public company is a corporation, whereas private companies can be corporations, partnerships, or LLCs.
In some cases, private companies are large and choose not to go public. There are many big private companies that can go public but choose not to because of the advantages of remaining private, such as less regulation and more freedom.
Regulations and reporting
After a company decides to become public, it follows many additional rules and regulations to maintain compliance with national regulations. Every fiscal year, public companies must develop a financial report and a director's report, while an independent party audits these reports. This can cost the company money and time.
It's important that private companies develop reports every financial year if they're a proprietary company. In general, private companies have the advantage of having fewer reporting requirements. A large proprietary company is typically a private company that has any two of the following characteristics:
50 or more employees
$5 million or greater in assets
$10 million or more in revenue
In public companies, the price of the company stocks is constantly analyzed, with a higher likelihood of investment experts analyzing the activities of the executives and board members. Also, the press may attend annual meetings, and anyone with any amount of stock can attend these meetings as well. Private companies can have a considerable sense of anonymity. Typically, the board members are a small group of people who know each other. In some cases, all the shareholders are members of the board. This considerable sense of privacy allows for faster decision-making processes.
The pros and cons of public vs. private companies
Here are the advantages and disadvantages associated with public and private companies:
One of the primary advantages of public companies is that they raise funds by allowing the public to buy shares. These professionals allow the public to invest their money, which funds the company's processes. They also allow increased growth opportunities because their method of financing allows for more expansion.
The disadvantages of public companies are that owners have less control and that they have more requirements for reporting. There is also an increase in liability, and the overall process for becoming public is extensive.
Private companies have the advantage of being a separate legal entity. They also have limited liability compared to public companies, and provide an easier transfer of shares. This lack of liability occurs because private companies don't impact the personal worth of shareholders and investors. Private companies also lack the reporting requirements of public companies and can keep their finances private. When owners require additional funding, they can also apply for bank loans with lower interest.
The primary disadvantages of a private company are there is a limited number of shareholders. For some, this limit is beneficial because it provides the owner with additional ownership.
Understanding the process of going public
Private companies become public companies after a process known as an initial public offering (IPO). An IPO is an event where a corporation offers shares in the public market. Before becoming public, a company registers to pass the requirements necessary to sell shares. During this time, the company also works with investment banks to form an underwriting agreement, which is a contract between a group of investment banks and the company. Here, the name of the investment bank is "the syndicate," and the lead underwriter navigates their management.
Essentially, the corporation issues securities to the syndicate, and they agree to resell them for a set amount on the public market through a stock exchange. Collectively, the syndicate takes on the potential risks of selling stocks in the public market. An underwriting agreement between the syndicate and the company includes the following:
a commitment by the underwriter to purchase a securities issue
the agreed-upon price of the purchase
the agreed-upon opening resale price
a settlement date
Frequently asked questions about public and private companies
Here are some answers to frequently asked questions about private and public companies:
What is a preliminary and final prospectus in public companies?
Before you sell securities to the public, you typically require a receipt for preliminary prospectus and final prospectus. You file the paperwork for this with both your provincial and territorial authorities where the company operates. Since the country established a national passport system, you typically only require authorization in a single jurisdiction.
When filing the paperwork for prospectus, you require all essential information about the securities offered. For example, you typically require information about any audited financial statements. Other components of the prospectus include a description of the company, use of proceeds, overview of earnings, and material contracts. You also have the responsibility of verifying the materials and information included in your paperwork. This due diligence is the foundation of liability defences.
What happens to the owners of public businesses after they become public?
When companies go public, the owner loses a portion of their ownership. This ownership transfers to members of the public who buy shares in the company. While the owners report to directors and shareholders, they typically maintain a majority of the company. In this situation, owners report funding and company processes to the board of directors.
Can public companies become private?
Public companies become private when someone obtains the majority of the company's shares. This removes the company from the public stock exchange lists. Becoming a private entity has fewer requirements than public companies. These companies conduct an initial public offering, otherwise called an IPO, to establish their shares on the stock exchange.
Explore more articles
- What Is a Purchase Process? (With Steps and Helpful Tips)
- A Comprehensive Guide on How to Be an Extrovert (With Tips)
- What Are Java Certifications? (With FAQs and How-to Steps)
- 15 Examples of Tone You Can Use in Your Writing (Plus Tips)
- How to Develop an Effective Sales Pitch (With Examples)
- What is Integrity? Definition and Examples
- What Is Specialization and Why Is it Important? (With Tips)
- A Guide to Etiquette in the Workplace (Importance and Tips)
- 12 Classroom Games You Can Try (With Their Benefits)
- 5 Types of Small Business Structures (With Examples)
- What Is the GAP Model of Service Quality? (With Examples)
- Guide: How to Set up a Meeting (With Helpful Tips)