The IPO Journey & Stock Compensation Getting There is Only Half the Fun!

October 22, 2014

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Christina Chiaramonte, Solium Mike Gould, PwC Laura Lakin McDaniels, Cooley LLP Ken Wechsler, Radford

Outline

• Overview of the IPO process • Review the Governance, Financial, Legal, Compensation

Design and Administrative areas while on the Road to an IPO • > 12 months pre-IPO • 6-12 months prior; 3-6 months prior; IPO imminent

• Questions & Discussion • Appendix

• Accounting and Reporting Issues • Governance

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An Overview of the IPO Process

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Pre-Effective Post-Effective

Phase 1

Pre-Kick-off/Planning

Phase 2

IPO Process Execution

Phase 3

Post IPO/Public Company

• Initial planning and preparation

• Readiness assessment

• “Going public” • Execution of the IPO process

• “Being Public” • The organization to be to transformed to enable it to operate as a

public company

IPO effective

IPO Pricing

Detailed Illustrative Timeline

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Kick-off

Effective date

Regi

stra

tion

Fi

nanc

ial r

epor

ting

St

ruct

urin

g

Audi

t

Und

erw

riter

Prep

arin

g to

be

publ

ic

Offering team selected All-hands meeting held

Project governance established • Roles and responsibilities defined • Project plan completed • Communication plan established • Issue resolution process agreed

Draft Form S1, including textual information prepared

Pro forma financials drafted

Draft Form S1 finalized

Form S1 and exhibits submitted to printer/placed on Edgar Fo

rm S

1 fil

ed

Textual information drafted

Amen

dmen

t file

d Form S1 registration requirements identified

Form S1 shell drafted

Pro forma financials completed

Circle-up discussion held

Draft Form S1, including financial information prepared

Resp

onde

d to

SEC

co

mm

ents

and

For

m S

1 am

ende

d

IPO

effe

ctiv

e

Financial reporting requirements identified/ shell drafted and reviewed

Segments identified

Significant accounting/reporting issues identified

Significant accounting/reporting issues resolved

Historical financials drafted

Five-year selected data provided

Historical financials completed

Address SEC complex accounting issues

Tax structure determined Tax impact analyzed

Compensation plan for principals and employees completed

NewCo established as a legal entity

Review of Form S1 completed Comfort letter

delivered Comfort letter prepared Audit consent issued

Sign off shell financial statements

Complete review of pro forma financials

Annual audit and interim reviews completed

Comfort letter requirements discussed

Initial discussion regarding due diligence request list held Working draft sessions begin

Underwriter agreement signed

Marketing and road show

Access current organization and identify resource gaps

Access financial close, systems, and internal control capabilities

Recruit key personnel; onboarding. VPs build teams

Develop implementation plan and execute

Internal control documentation and testing

Initial filing date

Tax issues impacting data requirements for SEC reporting purposes resolved

Audit planning meeting holding audit review procedures confirmed

SEC

com

men

ts r

ecei

ved

IPO Readiness Framework

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Technology

Project management, change management & communications

A comprehensive IPO readiness assessment requires a thorough evaluation of all areas of the organization.

Enterprise risk management Treasury

Legal

Tax Executive compensation

and HR

Wealth management planning

Corporate strategy and development

Accounting, reporting, and financial effectiveness

Financial planning and analysis

Governance and leadership

Internal controls & internal audit

Media and investor relations

Engage with investment banks

Compensation Planning IPO Milestones

Matching and Leveling to the Radford Job Platform

First Time Salary and Bonus / Equity Benchmarking

Salary Administration System Development

Annual Bonus Needs Assessment/ Design

Startup

Equity Grant Guideline Development and Total Dilution Planning

Acquisition/ Merger- Ready

Comprehensive Executive Compensation Review > Peer group selection > Compensation philosophy > Total pay competitiveness > Executive post-IPO retention assessment > True-up internal inequities in stock holdings

Public Disclosure and Regulatory Preparation > Executive

compensation SEC disclosure drafting

> Equity plan terms audit and funding needs projections

> Tax & regulatory compliance

> Executive severance/change-in-control policies and contracts

Board of Directors Compensation Program Establishment

Equity Holdings Retention and Refresh Assessment

Ongoing Cash/Equity Program Review and Incorporation of New Roles/ Incumbents

Equity Award Valuation Assessment for ASC Topic 718 Accounting

Initial Public Offering

Go-forward Public Company Compensation Maintenance

Early Stage Pre-IPO: > 12 Months Out

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Elements Considerations

Financial

Complete thorough IPO readiness assessment on all aspects of Going Public and Being Public

Select auditors and accounting advisors Ensure financial statements are SOX complaint Start to build finance team sufficient to support the needs of public company Obtain independent valuations, if necessary Analyze potential tax structures and determine optimal structure

Governance Evaluate annual bonus programs and other pay practices in light of enhanced

disclosure Consider board membership (independence) and CEO role in setting compensation

Legal Evaluate Rule 701 and “Blue Sky” compliance Plan for repayment of officer and/or director loans prior to IPO (Sarbanes-Oxley)

Compensation

Provide new hire equity grants Consider refresh grants for executives and staff on board for longer terms Evaluate competitiveness of cash compensation program Determine labor market for talent, particularly executives

Administrative Assess sufficiency of minute books and corporate records Consider internal roles and expertise related to equity structure

Pre-IPO Equity Hot Buttons

• Rule 701/Blue Sky Compliance • Audit grants for compliance • May be required to provide enhanced disclosure with new grants

• Cheap Stock charge/Section 409A tax consequences • Obtain frequent valuations – ideally a valuation for each grant date • Avoid granting awards when new valuation is pending • Resolve 409A issues

• RSUs • Can be issued instead of options to avoid valuation problems • Avoid vesting/settlement in lock-up period

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Cheap Stock

• ASC 718 requires all entities to recognize compensation expense based on the fair value of stock awards and option grants

• SEC may require an increase in the charge for compensation expense if the estimated fair value of recent equity awards is below IPO offering price (“cheap stock”)

• SEC will review past 12 to 18 months of option grants or other issuances • Build the backup well before filing • Independent valuations • Third party transactions • Timing of the SEC comment can cause delays - resolve this one with the

SEC before you go “on the road” • Potential impact on IPO valuation of non-cash compensation charges

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Elements Considerations

Financial

Write MD&A Ensure finance team can close books and report within 45 days Identify and agree upon number and nature of segments with all stakeholders Identify and agree upon non-GAAP measures and other KPI's and ensure they have appropriate

internal controls Commence remediation of any material weaknesses, if necessary Approach SEC with any pre-clearance issues, if necessary

Governance

Establish Board Committees: audit, compensation, nominating/governance Make necessary board changes (director independence; financial expert) Consider risk oversight disclosure requirement “Executive” officer status – review management structure and titles

Legal

Review/revise existing employment and equity agreements (409A, change of control provisions) Consider/draft new equity plans – “omnibus” equity plan and ESPP Ensure all shares subject to a lock-up D&O questionnaires – identify issues

Compensation

Conduct Board of Directors compensation market assessment / design program for forthcoming independent directors

Determine hiring of executives post IPO and compensation needs Review and design an equity strategy for the pre- and post-IPO environment covering the broad

employee population, including potential evergreen provisions and Employee Stock Purchase Plan (ESPP) programs

Administrative Identify/hire a dedicated stock plan administrator within company or use of full-service partner Review and “clean up” shareholder and option-holder records Recommended: move to fixed schedule for making option grants

Pre-IPO: 6-12 Months Out

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Elements Considerations

Financial

Perform live close and deliver 10Q like document within 45 days of quarter end Finalize MD&A, summary, selected, and other financial disclosures Complete pro forma financial statements, if necessary Update historical financial statements with annual and interim financial statements, as necessary Continue working on remediation of any material weaknesses, if necessary

Governance

Committee charters should be developed/updated Develop a compensation philosophy and a transition strategy to migrate compensation programs

from private company to public company environments Insider trading policy and window program

Legal Draft and review a Compensation Discussion & Analysis section (CD&A) if needed Reevaluate available share reserves under equity plans Consider post IPO equity award mix (option vs RSUs) and tax implications

Compensation

Develop a compensation philosophy and a transition strategy to migrate compensation programs from private company to public company environments

Develop peer group of publically-traded competitive companies for use in Board and executive compensation market assessments

Assess the overall retention value of your equity programs by examining ownership levels for employees to determine if any adjustment/refresh grants should be considered prior to an IPO

Confirm if equity award eligibility will remain the same post-IPO Develop post-IPO Board of Directors compensation program that is consistent with public company

peer practices once appropriate

Administrative Upgrade your equity management solution to accommodate public functionality (i.e. participant

portal and broker and transfer agent process) Develop SOPs for equity plan administration post-IPO

Pre-IPO: 3-6 Months Out

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Pre-IPO: Approaching IPO

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Elements Considerations

Financial

Resolve any open accounting issues with SEC, including cheap stock Update historical financial statements with annual and interim financial statements, as

necessary Finalize finance team for "Being Public" Continue working on remediation of any material weaknesses, if necessary

Governance Finalize committee Delegate authority to officers to grant “routine” equity awards? Implement insider trading and pre-clearance policies

Legal Consider freezing new option grants as approach pricing Prepare Form S-8 and stock plan prospectuses Section 16 officer SEC ownership filings

Compensation

Assess the competitiveness of the executive compensation program against approved peer or survey companies covering salary, incentives and equity

Review cash incentive practices at peer companies and begin to explore alternatives to align your existing programs with public company market practices

Consider the additional of a Evergreen provision to the equity plan and if so at what level of annual refresh

Consider the introduction of an Employee Stock Purchase Plan (ESPP)

Administrative

Prepare for employee meetings -- insider trading, lock-up, ESPP roll-out, taxes on awards

Evaluate employee communications materials and methods (intranet) Transition stock recordkeeping to transfer agent

Equity Practices Comparison / Transition Prep

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Elements Typical Private Philosophy Typical Public Philosophy

Setting Award Established based on a target ownership

percentage

Equity grants are established based on a target annual grant value

Converted to a number of options/shares based on the current stock price

New-Hire vs. Ongoing/ Refresh

Large new-hire grant Refresh grants delayed until IPO

approaches, or 3-4 years after hire Refresh guidelines set anywhere from 25%

to 33% of new-hire awards

New-hire award typically 2x ongoing award size

Most employees eligible for ongoing award after one year of service

Vehicle Mix

Stock options predominantly (A few notable exceptions have used RSUs pre-IPO recently, however may require cash reserves to address employee taxes)

Mix of stock options and RSUs Emphasis towards RSUs Prevalent use of performance shares for

executives

Participation

New hires: nearly 100% How is grant size determined? Refresh awards: targeted at key performers

and those employees greater than 50% vested (25% to 30% of population receives)

New hires: participation decreases as company increases in size (may eliminate eligibility altogether below certain level)

Ongoing awards: Broad eligibility is maintained, although awards targeted at top performers (40% to 60% of population receiving annually)

Equity Plan Modifications at IPO

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Practice at IPO Technology Life Sciences

New Equity Plan Adoption (% of companies) 90% 97%

Prevalence of Full Plan Evergreen (% of companies) 79% 83%

Median Evergreen Funding Rate (% of post-IPO total common) 4.0% 4.0%

Immediate Funding w/ Evergreen (% of post-IPO total common) 7.5% 6.9%

Immediate Funding w/o Evergreen (% of post-IPO total common) 10.9% 11.2%

Adoption of ESPP Offering (% of companies) 52% 53%

Start-Up to IPO Compensation Program Evolution

• Company compensation programs mature as a company transitions from start-up in preparation for their public offering

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IPO Preparation

Acquisition/ Merger Ready

Development Phase Start-Up

Consulting to Board of Directors

Consulting to Management

Private + Public Survey Data

Private Survey Data

Ad-Hoc Job Pricing

Initial Benchmarking

Job Matching

Assessment of Cash and Equity Programs

Salary Structure Design

Equity Guideline Deployment

Incentive Plan Design

Executive Compensation Review

Equity Retention Analysis

Comp. Transition Strategy

Governance Review

Disclosure Prep.

Questions? Contact Us!

• Christina Chiaramonte VP, Client Relations Solium Phone: 415.426.7932

christina.chiramonte@solium.com • Laura Lakin McDaniels

Special Counsel Cooley LLP Phone: 650.843.5167

lmcdaniels@cooley.com

• Mike Gould Partner, Transaction Services

PwC Phone: 312.298.3397

mike.gould@us.pwc.com • Ken Wechsler

Director Radford Phone: 760.633.0057

ken.wechsler@radford.com

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Appendix

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Accounting and Financial Reporting

The Process of Going Public

Key financial information to be included in Form S1: • Annual and interim historical financial statements • Summary and selected financial information • Pro forma financial statements • MD&A • Executive compensation (CD&A) • Capitalization • Dilution

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Going Public: Accounting & Financial Reporting

Common issues: •Public company GAAP and disclosures vs. private company requirements •3 years of audited financial information, plus 2 additional years, which may be unaudited •Predecessor/successor financial statements •Preparation of interim financial statements, and additional interim data that may be required •Pro forma financial statements •Additional audited financial statements for ‘significant’ acquired companies prior to date of acquisition •Tax, legal and financial reporting implications of reorganizations in advance of and IPO •Non-GAAP measures •Cheap stock •Segments •EPS

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Post-IPO Historical Financial Reporting Deadlines

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Category of filer Form 10-K deadline Form 10-Q deadline

Large accelerated filer ($700 million)

60 days 40 days

Accelerated filer ($75 million to $699 million)

75 days 45 days

Non-accelerated filer

(less than $75 million) 90 days 45 days

Being Public: Accounting & Financial Reporting

Common issues for private companies looking to become public: •Close cycle inadequate for public company reporting

• Timing • Quality

•Neither adequate nor documented policies and procedures •Lack of sophisticated budgeting and forecasting process •Inexperienced management and external reporting •Number of FTEs and inadequate skill sets within finance department

• Lack of public company accounting and reporting expertise

•Competing demands of resources for ‘going public’ tasks and ‘being public’ readiness

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Governance

Governance & Leadership

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Example framework

Corporate Governance &

Oversight

Policies & Procedures

Internal control

Budgeting, planning, and forecasting

Accounting policies and consolidation

Disclosure controls and procedures

HR

IT

Compliance

Inte

rnal

Aud

it

The corporate governance structure provides the overall direction for the organization

The code of conduct provides the values that drive the development of policies and procedures

The entire framework is monitored by internal audit

Governance & Leadership

Requirements and considerations • Code of conduct/code of ethics

• Code of conduct adopted and made publicly available for directors, officers, and employees

• Waivers of the code for directors or executive officers be promptly disclosed

• Issues/considerations: ◦Global versus local policies ◦Language

• Whistleblower program • Lack of sophisticated budgeting and forecasting process

• Procedures established for receiving, retaining, and treating alleged incidents

• Issues/considerations: ◦Local laws (anonymous reporting) ◦Insource versus outsource

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Governance & Leadership Requirements and considerations (cont.) • Board of Directors

• Majority independent directors (12-month phase-in for IPO companies) • Non-management directors required to meet in executive session • Annual performance evaluations of the board and board committees

required • Issues/considerations:

◦May need to recruit more than one new independent director ◦Board likely to function differently with more independent directors

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Governance & Leadership Requirements and considerations (cont.) • Audit committee

• Required by SEC, New York Stock Exchange (NYSE) and Nasdaq • At least three independent directors • Financially literate members (with at least one financial expert) • Responsible for appointing, compensating, retaining, and overseeing the

work of the external auditors • Financial reporting process supervision

• Compensation committee • Required by SEC, New York Stock Exchange (NYSE) and Nasdaq • Is composed entirely by independent directors • Responsible for determining the compensation of the Chief Executive

Officer and all other executive officers of the company • Approve the goals and objectives of the CEO relevant to CEO

compensation • Has the sole discretion to retain or obtain the advice of a compensation

consultant, legal counsel or other adviser

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Internal Controls

What does SOX mean for public entities? •The SOX Act legislates that companies should have internal controls in place over financial reporting and report on a quarterly basis that they are operating effectively •Good internal controls are no longer just best practice – they are law under the Act

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Internal Controls

Key Section 404 requirements •Section 404 requires that management has internal controls over financial reporting, which is part of an internal control framework to prevent and/or detect material misstatements to the financial statements

•This control framework should include documentation of the controls, associated policies, and procedures that contribute to the control framework and documentation, which can be relied on as part of a validation procedure to ensure that the controls are operating as designed. (A commonly used control framework is Committee of Sponsoring Organizations [COSO] of the Treadway Commission) •The three elements to the control framework are:

• Business process controls, • IT controls, and • Entity-level controls

29 *Note: EGCs filing under JOBS Act are exempt from internal controls audit required by Section 404(b)

Internal Controls

Key Section 302 requirements • The certification is intended to hold the CEO and CFO accountable for

ensuring that: • The financial report neither contains any untrue statement of a material

fact nor omits to state a material fact • All financial statements and information are fairly presented • Disclosure controls and procedures are established and maintained • The disclosure controls cover the whole company, including

consolidated subsidiaries • Necessary control weaknesses have been disclosed • Any fraud has been disclosed

The CEO and CFO certify quarterly with every 10-K and 10-Q

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Governance & Compliance Timeline: Key Milestones

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Registration statement declared effective

Date of listing 90 days after registration

First quarter after filing

One year after

registration

One year after listing

90 days after listing

Second 10-K filing

At least one independent director on: • AC • Nominating committee • Governance committee.

Majority independent directors on: • AC

Majority independent directors on: • Nominating committee • Governance committee

Section 302 filing

Fully independent directors on: • AC

Fully-independent directors on: • Nominating committee; and • Governance committee Majority independent directors on: • Board of directors

Section 404 compliant

SOX Act of 2002 requirements

NYSE governance listing requirements *Note: EGCs filing under JOBS Act are exempt from internal controls audit required by Section 404(b)