Capital Markets

The Wait for Worth

Investors have shown little appetite for IPOs so far this year, driving down pricing on new issues and delaying others.
Vincent RyanMarch 16, 2010

CFOs hoping for a revival of the market for initial public offerings may have to bide their time for another quarter — or two. So far this year, many IPOs have underperformed on the first day of trading or priced below announced expectations, evidence of weak appetite for new equity issues. And the market may not warm up again until the summer.

In 11 of the 18 IPOs that have come to market this year, underwriters have had to discount the offering price to stoke investor interest. Moreover, the average first-day “pop” in price was actually negative — -6% — compared with 4% in the second half of 2009 and a 12% average in the period from 2005 to 2008, according to data from Renaissance Capital’s “The people that trade in IPOs are used to an 8%, 10%, 12% [first-day] pop in their investments,” says Jay Duke, a partner in the capital markets practice at BDO Seidman.

Only five IPOs so far in 2010 produced a first-day gain of more than 12%: Andatee China Marine (Nasdaq: AMCF), China Electric Motor (Nasdaq: CELM), Ironwood Pharmaceuticals (Nasdaq: IRWD), Piedmont (NYSE: PDM), and Generac Holdings (NYSE: GNRC).

While only four IPOs have been withdrawn this year, six have been postponed, compared with three postponements at this time last year. “A lot of the better companies are postponing until the second and third quarter — the pricing is not where they want it,” comments Duke. But not many investment bankers expected the first quarter to be a welcome climate for IPOs anyway, he adds. In a recent BDO survey, the majority of investment bankers said the third quarter of 2010 would be the strongest period for coming-out parties.

As for the below-range pricing, “the companies going to market now probably need the money more,” notes Duke. “That’s being perceived by the market, and [IPO investors] smell blood in the water.” When an issuer really needs equity capital, IPO investors have more leverage in pressuring the underwriter to price a deal at a discount.

A big reason investors aren’t biting once new listings trade in the open market is the rise in secondary offerings from existing publicly held companies, says Duke. Many such offerings are trading at substantially lower valuations, so investors view them as containing potentially high returns for less risk. “There’s a lot of market volatility in the new filings,” adds Duke. Year to date, U.S. markets have seen $18.7 billion in secondary offerings, compared with $6.7 billion for the same period last year, according to data supplied by Thomson Reuters. For all of 2009, secondaries hit $199.6 billion, up from $152.9 billion in 2008.

A practical reason for the listless performance of IPOs is that underwriters and investors are keen on seeing the 2009 year-end audited financials of filers before committing to deals, says Duke. They want to see whether or not companies are performing as the economy recovers.

A less-clogged pipeline for IPOs means investors have the luxury of considering each offering more carefully, notes Kal Goldberg, a managing director at FD, a communications firm. While business models and solid stories still help, more than ever companies have to demonstrate good corporate governance, stable cash flows, a favorable earnings outlook, proven management teams, and a solid asset base, says Goldberg.

With the shift in investor sentiment toward IPOs, companies going public in 2010 “must pay particular attention to their abilities to meet short-term market expectations,” says a recent study by PricewaterhouseCoopers. Many private companies mistakenly assume that IPO “goodwill” can be stretched out over several quarters.

The performance of IPOs thus far in 2010 suggests that the best move for would-be issuers may be to wait until the pricing becomes more attractive or to seek capital elsewhere. Postponing an IPO may pique equity holders and employees, but frequently it is the wisest choice, and it is certainly preferable to a pricing haircut, says Duke. “A postponement isn’t indicative of a bad company,” he says. “It just signals that [the company] has options.”


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