European ECM Roundtable 2012: Part 1
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IFR: If we had held this roundtable in June the conversation would have been rather depressing coming straight on the back of the cancelled multi-billion euro IPO of German speciality chemicals company Evonik.
Things have changed significantly since then with a sharp increase in deal activity and share prices, so what are your initial thoughts on European equity capital markets and the immediate future?
GREG BENNETT, FIDELITY WORLDWIDE INVESTMENT: It was clear to me when we came back from the August break that the sellside had returned with a positive can do attitude.
There was a lot of emphasis for trying to get deals done by putting companies on the table for investors to look at. That change was very welcome and obviously we have seen a number of big IPOs since the end of the summer break.
I think the IPO market still is pretty challenging generally. Over the course of a cycle an IPO market is often there to provide capital for growth companies, to allow companies to bring new money in, new investors in and grow the business.
It’s quite interesting to see that since the summer break the three major IPOs that have happened [German insurer Talanx, UK insurer Direct Line Group and telecoms firm Telefonica Deutschland], all of these are high-yield stocks, all with yields of over 7%. Clearly this is the kind of company that the market is looking for at the moment and they have really hit the right note.
What we need to see to ensure a healthy IPO market in the longer term is the addition of growth companies – firms which are other than just yield plays. If we can see that then I think we can have some confidence that the IPO market is fully functioning again.
REINOUT KOOPMANS, JEFFERIES: My perspective of the world in the second half of 2012 is that the reduction of tail risk in Europe is a key driver. What I certainly see is that M&A is coming back big time as a reason for raising equity, with discussions ongoing at various stages. M&A is going to be an important driver of volumes next year as tail risk in Europe is reduced and management teams get more confident and look at new growth options or strategic initiatives. The market is certainly very constructive to support that.
The second theme I think important for next year is around diversification of funding sources. I think this has been a very important driver of some of the activity that we’ve seen post summer.
Thirdly, I think we are going to see a comeback of private equity as a theme in the IPO market. Most of the transactions that we have seen recently result from sponsors’ backlogs of deals that were intended to happen a long time ago.
I can certainly say that there are new things emerging on the horizon out of the private equity world and IPOs as an exit has certainly become much more of an option than it has been for a long, long time for that segment of the market.
CRAIG COBEN, BANK OF AMERICA MERRILL LYNCH: I think we’re operating in an environment of low growth but high liquidity and that is one of the reasons why the market has been fairly selective around the names that it is prepared to support when they come to market.
As Greg mentioned, we’ve seen a number of yield plays generating substantial amounts of demand and that is what you would expect in this sort of environment. The question is whether we can migrate over to support for growth-oriented companies, and I think the jury is still out.
For the time being, investors have, to some degree, crowded into the yield plays at the expense of the growth companies. Inevitably this will change but when that change comes is very difficult to predict.
I also think that we are still beholden to macroeconomic developments. The eurozone crisis still persists; it has not been solved even if for now tail risk has been taken off the table.
I think one encouraging development is that we have seen a number of rights issues this autumn to support M&A. We haven’t seen this for several years and I hope it is going to be a positive omen. That being said, I think it will take time for volumes to recover the levels that they achieved in 2005 and 2006.
LUIS VAZ PINTO, SOCIETE GENERALE: The first nine-month volume figures were very depressing. I believe it is the first time in many years that there has been only one US$1bn-plus IPO in Europe — which was Ziggo — and if you look at the number of deals and volumes we are back at the very depressed levels seen in 2003.
If we had been speaking in September when we came back from the summer, or even before the summer, we would have had a very different view. Now we are, I wouldn’t say optimistic, but certainly more positive and that’s partly because of the dialogues that we are having with investors where they are very receptive.
Expectations are very low around the eurozone at the moment. European companies are currently trading at a 40-year low compared with US companies. However when we look at funds flow, a number of people are coming back saying there is a value opportunity and are increasing asset allocation to Europe.
To use the BofA Merrill Lynch Survey of Fund Managers, which I still read very closely after my 10 years there, it is very interesting to see that in August there were a net 5% of investors which singled out the eurozone as the area they would most likely look to go underweight on. In the September survey you had 9% net of investors singling out the eurozone as the area where they are most likely to go overweight.
Investors are also willing to engage around cornerstone and other pre-IPO situations, which was not always so because of uncertainty in Europe. Earlier in the year investors were too busy re-shaping and re-balancing their portfolios.
Also success breeds success. For example, Talanx, after a stop and start, eventually got it right followed by Direct Line and those transactions have gone on to make money for investors, which breeds appetite for more.
Clearly the first companies to hit the market are generally the better ones and these by definition go on to trade better. We need to make sure that the right quality of companies are coming to market and make sure we retain that uplift, but this certainly is a positive sign.
The other trend is that the way in which transactions are done is changing as people are, after the criticisms which we had two years ago, far more prepared to do things in a different way. Engaging earlier with investors is working well and the cornerstone process, which used to be very common in Asia, that’s being steadily imported into Europe too.
Accelerated transactions are also an option, because if a company has been engaging with investors for a long period of time prior to its IPO then investors can also make a decision much more quickly whether or not they want to participate. So this allows you to shorten the investor education period and then eventually the roadshow because the book will fill up that much faster. So I believe we’re seeing a change in terms of how the street and investors work together.
MARCO ESTERMANN, SIX SWISS EXCHANGE: I think for the exchange world 2012 has been another quite difficult year. Trading volumes are down on average about 20% to 30% across Europe, even across the world.
In terms of new issuance, we were lucky enough at SIX Swiss Exchange to host one of the major IPOs this year with DKSH, which was shortly before Ziggo and slightly below the US$1bn transaction size.
Just recently we welcomed EFG Financial Products, a growth company and one of the first pure-play derivatives players to get a listing, which actually performed quite successfully in the aftermarket having priced mid-range at SFr45 and achieved a valuation of SFr300m.
We are now in the second window of IPOs this year and we are seeing signs that it might go on into the New Year as well, so there is positive sentiment in the market.
TOM JOHNSON, BARCLAYS: Broadly I would agree with a lot of the comments that have been said. If you break the market down there seems to be good appetite from investors and there is money available in the market. I think that has been pretty consistent around things like M&A actually throughout the last 12–18 months.
Most of the M&A raises Barclays has done over that period have received very, very strong support from shareholders – subject to the acquisition being a sensible one. I think the support has been there consistently but the low confidence level of boardrooms has held back M&A activity, but I think that’s certainly going to come back soon.
As people have said about the IPO market, the phase one process is really behind us in terms of these first large deals coming to market. I still remain pretty cautious. As Greg said, it is growth companies which mark phase two and is really the test of the health of the market.
There is definitely a lot of interest in yield at the moment. On Direct Line we were involved in the retail offer and it attracted a huge amount of money for yield.
We were also involved in an infrastructure fund raise [of £200m for International Public Partnerships]. It was just a yield play with no capital upside, and there was a huge amount of demand.
If you look closely the real growth stories are actually trading on some pretty punchy multiples, so investors are prepared to pay a high multiple for a really good growth story. When we come across those private companies that offer high growth, the motivation to come to the market is not necessarily obvious. A lot of the companies that have come to market, there’s clear motivation for them, but a lot of these high growth companies don’t have leverage to pay down.
Many of them are online or technology plays and they do not have the capex requirements that require substantial capital raising. Why do they need to come to the market unless the market is absolutely right for them to do so on their terms? Plus when they do come, and can show the growth is there, they will be very focused on the high multiples that their peers are trading on.
So whilst I think we might have a healthy IPO market for the next six months or so, I am not sure we are going to be ready for the really stellar IPO stories that will get the market really excited.
It remains to be seen whether they come in the next six to eight months or at the end of 2013.
IFR: At the moment the IPO market is dominated by private equity firms selling off old assets. Do companies still see IPOs as a stage in their development? What are the key restrictions on IPO activity today?
KOOPMANS: I don’t think that low activity is necessarily related to the lack of appeal of the IPO concept. What is very important is that shareholders and management teams need to be convinced of the solidity of the market and its sustainability.
Many sectors have gone through a time where there was tremendous under-appreciation of growth and that remains at the forefront of issuers’ minds. That is why the choice of listing location remains an active discussion point and out of 22 European companies that have come to the market so far this year, six of those listed in the US.
So, for me the question is when can we convince issuers and their shareholders that there is a degree of resilience in European markets to support their valuations, not only at the IPO but also going forward?
COBEN: I think the biggest problem is that we have had a huge disinvestment from the equity market over the last 10 or 12 years. The flows have been all in favour of bonds, which isn’t surprising when you are in a low interest rate environment and bonds have been phenomenal performers.
If you add in poor economic growth and macroeconomic uncertainty – especially in the eurozone – the IPO becomes a relatively unattractive channel. It is much more attractive either to sell out or even to do a dividend recap as many private equity firms have been doing.
I think we can improve the process, of course we can, but I think the biggest change will come from economic recovery in Europe before the restoration of the equity market as a centrepiece for raising capital. I think that to some degree we have made things more difficult because the regulatory burdens of being a public company have ratcheted up, making public listing far less attractive.
BENNETT: I think the flow into institutions for investment in equities is essential to the whole IPO market. For years now, as you say, we’ve seen retail money, pension fund money, institutional money in its broader sense, going out of equities into bonds. The flows that have happened into equities have gone into emerging markets, or more recently the US. New funds are not coming into Western European equities.
From the investor side, we always want to meet exciting companies, but when it comes down to the investment decision, if you do not have new money flowing into your funds then you have to sell to buy. As soon as that is the case, the discussion becomes what are you going to sell, why are you selling that and what is the valuation difference or valuation rationale for putting it into the new investment.
That’s a very, very important angle that I think often gets overlooked. If we are going to replace an investment in one of our funds we need to have a compelling investment case, management team and valuation as we feel that’s what we’ve already got from our existing investments.
VAZ PINTO: Equity deals are very difficult to do nowadays. When you looked at doing an IPO in 2000 you had very large funds flowing into Italian asset management houses, and the same thing in Germany. You would see all the big German houses and big Italian asset management houses playing all over Europe. Now there is very strong concentration around the UK.
Also the French market is one that is still growing, and I believe it is the only one in Europe where funds of flow are still positive. So actually getting the dynamics right around selling to investors has become much more difficult.
IFR: And this is why listing location has become such an important topic and the home market is not always the natural choice. Marco, how does the pitch work when trying to attract companies to SIX Swiss Exchange, especially in the face of US competition?
ESTERMANN: Well I guess the US pitch is based on their huge asset pool mainly.
I actually am wondering why European companies are going to the US when several years ago we saw US companies moving over to Europe because of the regulation, such as Sarbanes-Oxley.
Now Europeans are taking on these tougher regulations again, mainly because of the investor base. So our pitch during the last three years is to attract companies to the Swiss market because we also have a good local investor base and we have flexible regulation relative to the tough regulation as in the US.
We actually achieved this year the listing of two major oil and gas services companies, Transocean and Weatherford International, both of which are listed on NYSE in New York. But they went for a dual primary, over here in Europe to tap into the European base as well. So I think it may be changing again now despite the regulations.
VAZ PINTO: I think regulation is a very interesting topic because clearly it is a balancing act in terms of protecting the various constituents of an IPO, retail institutions and so forth. The question is whether less regulation, or the regulation that exists in the US, is more favourable to getting deals done than in Europe.
But what I think is very interesting is the US became very strict and there was a perception that US capital markets were becoming unattractive as a primary listing venue and now they are becoming much less strict, notably with the JOBS Act.
In the UK there is now obviously debate around following a similar more permissive listing environment.
BENNETT: The JOBS Act has certainly grabbed a lot of the headlines in the last 12 months or so. It seems to be bringing the US capital markets into line with where Europe was sort of mid-2000. So the opportunity to have pre-deal research and the opportunity to actually go out and talk about the companies in advance of the IPO are things that clearly we’ve been doing in Europe for a long time.
So while there’s a lot of talk about how the JOBS Act is really bringing the US forward in leaps and bounds above Europe I don’t think that’s actually true.
But what there is in Europe, and has been for a period of time now, is a crisis of confidence around the IPO market. I think there are certain problems within the IPO market and ways that we can seek to improve it and we need to do that. If we can improve the IPO process in Europe, I see no reason why the European capital markets cannot regain a strong IPO market.
I think the greater depth of capital market and depth of investor base within the US is an unavoidable fact and that’s not going to change. We have to put that to one side and figure out how we, in Europe, can do what we do better in order to ensure that the IPO market retains a strong level of confidence.
KOOPMANS: I think indeed the regulation is a very important part of the attraction to the US, the depth and granularity of the expertise on the buy-side is factoral difference too.
But what I think is potentially most important at this point and the sole reason for a broadening set of issuers to go to the US is the fact that consumer-led growth is valued higher than currently in Europe.
The values that are being achieved from growth are tremendous, as we saw on Manchester United, and make a much stronger pitch than you have in Europe. So the way I see it is that the change in regulations encouraged a broader set of European issuers to potentially look at the US. Clearly it doesn’t make sense for everyone, but provided a number of conditions are met, such as some presence in the US, the US certainly has broader appeal than for the past 10 years.
IFR: So does it make sense for other jurisdictions like the UK to be focusing on regulation to attract new listings, such as adjusting free-float requirements?
JOHNSON: I think the regulations point is relevant around the edges. The US has basically come back in line after they were at a disadvantage for a period of time. You can tweak around the edges on the regulations but how many companies are going to suddenly do an IPO because the minimum free-float is 5% lower? I mean is it really going to make a big difference to the market? I don’t think so. Maybe a deal launches and you’ve got more flexibility to get something done at that point in time because you don’t have to do such a high free-float.
I think the bigger picture is Europe, as a whole, is in a very difficult position and the US market has been a much more vibrant place and success breeds success. The US has an IPO market that is open and issuers see that. In Europe it has been difficult and a lot of that is frankly where Europe is, not what we are doing.
I think Greg’s point is absolutely right, we always have to do the best we can with our product and our market, but ultimately we’re in a difficult environment and the US therefore offers a lot of attractions. Plus we are in a world now where management teams are much more global, they travel and their businesses are everywhere.
They feel more comfortable having the listing location debate than they would have done previously. Talking about the lowest common denominator is not going to be a game changer for the European IPO market.
KOOPMANS: I agree the listing location discussion is essentially around the buyside, much more than the regulatory arbitrage.
Where do you find an investor base that is supportive in good times and less good times for the particular issuer in question? That’s what it boils down to.
IFR: If you’re talking about in bad times, is that support more easily found at home?
KOOPMANS: Well no, not necessarily. It is about creating the home market support, but that doesn’t need to be in the home market.
Home market support can be the result of index inclusion and creating a supportive shareholder base that is there in bad times because they are following an index. Or it can be a particular sector with which that market is very familiar. It doesn’t necessarily need to be a Swiss company to go to the Swiss market or a UK company go to the UK market.
IFR: Craig, your team was the first to price an IPO in Europe this year – for Russian oil and gas company RusPetro –using an unconventional marketing approach that suggested there is enough flexibility in the regulations if banks are willing to consider it. Is that the case?
COBEN: I would say in Europe we actually have several advantages over the States because we can structure the marketing the way we want. The reason the US has such an advantage over Europe is not because of regulation – the regulations are stricter in the US and you have a much greater danger of being sued and so forth. The reason is that it is a much deeper market and it is much more integrated and that is the principal headwind which we face.
What we can do is we can try to be more imaginative around our marketing, but inevitably we come up against the same constraints. If we don’t actually have funds dedicated to equity investment or have a positive macroeconomic backdrop we will be screaming in the proverbial wind tunnel, people will just not listen to us.
So the biggest challenge we face is beyond our control right now. We can amend the regulations as I’m sure there are several possible improvements and the free-float debate is interesting, but only up to a point.
I think the larger question is if Europe can solve the eurozone crisis and if we can restore growth in what has currently been a very stagnant economic region.
IFR: But are we making the most of opportunities when they are there? We are in the second window for IPOs this year. The first one closed because no one wanted to launch until they had seen the two big deals price, then it was too late. We are in a similar situation at the moment where deals are pricing but nothing is launching and we’ll soon find ourselves at a point when year-end hits.
COBEN: True, but you have to be careful because to prepare an IPO is a lot of work. It requires fulsome disclosure because it is a new company. So when a window opens there is quite a lot of machinery to start running in order to hit that window. Preparing in advance when the markets aren’t open is possible, but it is also expensive because you have lawyers and accountants to pay.
Hindsight is always 20/20. It reminds me of an episode of the cartoon South Park, with a character named Captain Hindsight. In one episode he flies in and there’s a burning building where people are trapped on the top floor. The onlookers say “Captain Hindsight, look people are trapped on the top floor of a burning building.“
Captain Hindsight points to the top floor; and says something along the lines of “Well somebody should have put an exit there and there.” And the whole crowd claps for Captain Hindsight and then he flies off, and the people in the building, of course, perish.
So to me Captain Hindsight is the hero of our times, it’s very easy, with hindsight to say “Yes people should have been prepared earlier.” But in reality it is very difficult.
IFR: Are there ways around that? There has been discussion about shelf filings similar to those in the US, which allow you to post information and then keep it up to date, ready for when the window opens.
COBEN: Some European jurisdictions actually do have structures similar to shelf registrations. Bear in mind most shelf registrations are for companies that have already listed. You can also have them for companies which have issued registered debt, but companies that are not publicly listed when they issue debt probably don‘t want to go through the full disclosure requirements associated with the stock market listing. So I see that as a possible mitigant, but probably one that would be marginal.
KOOPMANS: There is also much more involved than just disclosure of financials, such as how do you run your business, and what does the board look like? Do you restructure your board in advance to make it more like a public-market company type of board? In many cases there is also lots of work to be done on financial reporting procedures and so it is a question of do you actually want to kick off that readiness process when it is much more than just getting the disclosure document ready.
IFR: Since the summer the IPOs we have seen have been driven by yield rather than an exciting new business. Greg said earlier that hopefully it would broaden out from this first phase. So what is deciding the names that come to market first? Is this a case of investor pull or shareholder push?
BENNETT: From the investor perspective we can only look at the deals that are put in front of us. It is rare that the new investor sets the timetable for an IPO. Clearly if the advisers can build a book of interest in a particular deal by establishing a relationship between the institutional investor base and that company then it may be possible for a group of investors to get together and try to push for a deal to happen at a particular time. But generally it’s not the investors that set the timetable.
JOHNSON: My perception is that there are plenty of high-growth companies in the US market trading on big multiples. That would imply to me that investors in a low-growth environment would probably pay a premium for a genuine, high-quality growth story. So, why not bring them to the market, I think you would get a lot more excitement and broader interest.I think there is an element that no one’s been preparing for an IPO because it takes too long. Maybe they will in the first quarter, but also a lot of those companies feel that they don’t have the pressure to go. Therefore I think they will wait, and probably rightly so, until they feel that the market has been proven a bit more. I think that investors would love to see some of these things and companies that have been growing have been trading incredibly well.