What Happens to Stock Price When a Public Company Goes Private?

The problem with public ownership of a company can be the public interest — specifically, the need for a firm to meet the needs and demands of its shareholders. This may or not match up with good business practice, in which directors may need to put more emphasis on new investment than quarterly profits. Of course, a public company has the option to go private, meaning buy out shareholders, cancel its stock and place itself in private hands.

If a company's board of directors wants to go private, it must either buy out shareholders or bring in a third party to carry out the purchase. The buyout may be subject to the approval of shareholders; in this case, a buyer must offer a premium to the current share price. If not, shareholders will not approve the buyout plan or "tender" (sell) their shares.

Private buyout offers are public information, which includes the name of the buyer and the offer price per share. As long as the buyout is credible, the price of company stock will usually rise to just under the offer. In general, the higher the premium to the current stock price, the more likely the buyout will take place.

Note that private buyouts are not the same as a merger of one public company with another. In the case of a merger, the stock price will usually fluctuate more. It may even fall if the merger plan doesn't meet the approval of traders and shareholders.

Rules set out by the Securities and Exchange Commission (SEC) also affect buyout scenarios and share prices. The SEC requires a filing if a company makes a tender offer for its own shares in order to go private, or announces a "reverse split" for the same purpose. In a reverse split, the company converts multiple shares into a single share — 1 for 10, for example. Shareholders who don't hold enough shares may be forced to sell. This scenario can lead to a fall in the stock price as investors lose confidence in the shares holding their value.

Stock traders love the sudden jump in share price when a private buyout or tender offer is announced. For this reason, buyout information — as well as rumors — take a front seat in the financial media. The mere hint of a company going private can send a stock price upward, and an out-and-out bidding war can be even more rewarding.

By the same token, any complication or delay in the transaction can send the stock price tumbling, out of fear the buyout will fail and the company will remain public. A company that fails to take itself private, either through regulatory trouble or inability to close a deal, may find its shares underperforming for a long period.