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Preparing to Go Public: What Food Tech Companies Need to Know About Valuations Before an IPO or SPAC

The food tech space is hot, but being ready for a deal requires forethought and expertise. 11.18.21

By Kemp Moyer, Partner, Advisory 

There has been rapid growth in food tech over the past decade, with plant-based meat, dairy and egg alternatives, cultured meat products, and other tech-driven food innovations being introduced at a rapid pace. Companies in this emerging space have also become a hot play in the equity markets, both for private equity funding and in the public markets.  

In the last few years, we have seen milestone initial public offerings (IPOs) in this space such as Oatly and Beyond Meat, as well as special purpose acquisition company (SPAC) deals to bring businesses like AeroFarms and Ginkgo Bioworks public through this alternative process. The goldrush has spilled into the venture markets as well: To date, 27 food tech companies have reached unicorn status in the U.S.  

High valuations backed by successful IPOs, along with rising interest in sustainability, all indicate that this space will continue to receive investor attention and more and more food tech companies will likely continue to go down the path of a public offering.  

When valuations and investments are booming, as they are in the food tech space, there can be increased risk of heightened public scrutiny for companies that are not properly prepared to go public. For any food tech company looking to make this leap to become a publicly-traded entity, there are several valuation requirements in particular that leaders should be aware of in order to prepare for and ease the IPO process. To that end, the following overview introduces some of these key considerations. 

The Value of Options 

When many venture-backed companies in the tech sector launch and expand, they commonly offer stock options to key employees. Food tech is no exception. Companies do this for a few reasons. The options are a form of deferred compensation saving businesses upfront cash while in a cash-burning phase of growth. Equity compensation is thus an important tool for attracting and retaining talent as well as recruiting and incentivizing a strong management team. One thing to keep in mind is that as a company gets closer to an IPO or SPAC acquisition, the options pricing and review process gets more strenuous for tax purposes and financial reporting. The Internal Revenue Service and the Securities and Exchange Commission might carefully review stock options pricing and stock compensation expenses for companies heading to the public markets.  

The equity underlying the grants must be given a fair market value for tax purposes under Internal Revenue Code Section 409A, as well as a fair value for financial reporting purposes by a qualified valuation specialist when options are issued. The IRS will use this figure for income tax purposes for both issuance and exercise, while the SEC will materially review stock compensation expense reporting and require key disclosures from management. If regulatory entities believe that the pricing of the options was below market value, there could be a process delay which can have a negative impact on deal timing and, ultimately, closing if market conditions shift. 

Frequently, as a growth company that may not yet be cash flow positive is preparing for a SPAC acquisition or IPO, there is a need to secure relatively short-term bridge funding. This capital helps with short-term funding while the larger public deal is finalized. In these circumstances, the company may issue convertible notes, where the terms will offer investors the right to convert the notes into company shares when the company goes public, often at a 10-20% discount to the initial public price. These bridge rounds provide capital without the need to negotiate and establish a new preferred stock round price, which may save time, and also aligns the funding with a potential public pricing process.   

However, once this funding is secured, there are accounting and valuation ramifications that are often quite complex. As the company prepares to become public, the notes will need to be assessed for complex features that may require separate accounting with recurring quarterly valuations of fair value for each required reporting period based on the terms of the notes and other key assumptions, including potential exit terms and probabilities. Additionally, if the notes are amended, the company is sold, or it secures another priced round of funding before going public, the notes terms and values could change, which would also require a new fair value conclusion.  

Another area that companies need to be aware of when considering key estimates is related to the ongoing accounting changes for leased assets. The Financial Accounting Standards Board (FASB) issued new standards (Accounting Standards Codification 842), which became effective in 2019 for public companies, requiring them to capitalize and record leases on their balance sheets. Private companies will be required to follow this standard for periods beginning after Dec. 15, 2021. 

Under these new standards, the company needs to estimate what it would cost to have borrowed money to purchase a property it is currently leasing on a collateralized basis over a similar term and amount equal to the lease payments in a similar economic environment. With most food tech companies having subsidiaries in foreign jurisdictions, this may require determining the unique rates of individual leases or portfolios of leases. To help calculate this, a qualified expert must determine the company's synthetic credit rating and incremental borrowing rate (IBR).  

One of the challenges for many companies about to go public and establishing an IBR is a lack of established credit rating. Many companies have relied on venture equity capital or convertible notes and often carry little to no traditional debt. Accordingly, to meet the IBR requirements in ASC 842, one must build the company a synthetic credit rating, which is often done by looking at comparable companies. This may be difficult because banks are far less likely to lend money to unprofitable companies, and pre-IPO/SPAC companies in the growth stage may have yet to reach that threshold. Factoring in the company-specific financial results compared to the comps set helps establish the basis for the synthetic rating estimate. 

Now, with this synthetic credit rating, it is possible to calculate what the IBR would be for that property at the point in time when the company started the lease. The figure can now be recorded on the balance sheet.  

Any company that foresees an IPO or SPAC sale should start organizing 12 to 18 months beforehand and understand that financial reporting and tax review standards will both accelerate in timing and tighten in terms of quality control, including SEC scrutiny of valuations. 

BPM Can Help 

Any company taking steps towards an IPO or SPAC acquisition needs to get its valuations and financial reporting in detailed order. It is imperative that the IPO or SPAC readiness process begins early in the process of going to market so that the books will pass the heightened scrutiny the company will face from regulators. By starting early, a business can avoid valuation and financial reporting pitfalls that could delay, or even scuttle, a potential deal. 

The talented professionals at BPM have the specialized skillsets to assist food tech businesses at this critical juncture. Handpicked from across our Tax, Accounting and Advisory practices, our FoodTech specialists can help any sized company get its valuations, accounting systems and processes, and other financial matters in line to face the higher standards required of publicly traded entities. To learn more about how we can help, contact Kemp Moyer, Partner in our Advisory practice and Head of our Valuations and Appraisals team, today.