European ECM Roundtable 2012: Part 2
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IFR: Getting investors to pay for that growth relies on them knowing the company better. Last year we spoke about the need to put investors together with all types of issuer potentially months in advance of an IPO. Is that happening and what is the impact when these floats haven’t occurred many months later?
BENNETT: We have definitely seen a change in the way that advisers approach IPOs and they are bringing companies to meet us at an earlier stage far more often than several years ago. It is an issue that I’ve been talking about for a long time to advisers and to private equity and to any other companies that we meet.
We are very keen to engage at an early stage to get to know the business and I think that is a message which has got through, as we are seeing a lot more companies than we saw three or four years ago at an early stage.
But I think there is more that can be done and we shouldn’t stop pressing on that particular pedal to get more companies through the door to meet us.
COBEN: I think issuers are keen to de-risk their IPOs more than ever. The principal obstacle to early meetings usually is management time and whether the company and management are actually ready to be exposed to the strict scrutiny of Fidelity and other institutional investors.
Those are the two principal reasons why there is sometimes reticence.
The other issue you have, unfortunately, is that many of the large IPOs are now subject to bake offs and very formal beauty pageants. As a result it is very difficult for us to get early access to issuers in order to arrange these types of meetings.
IFR: Marco, is the exchange able to help issuers along the road to an IPO?
ESTERMANN: Well I guess it would be best if we get to know from an issuer very early on that they are looking to do an IPO because in that case we would be able to influence them on choosing the listing location and bring them to SIX Swiss Exchange. But yes, if we get in touch with them early on we try to also get them in touch with the investment banks and advise them on who potential advisers could be and help them along to get ready to fulfil the regulatory requirements and so on.
IFR: Do early stage meetings with investors mean there is greater potential to have a more accelerated process on the basis that a number of people would hope would end up in the book have already had long discussions with the company?
JOHNSON: We haven’t really seen the fruits of this yet, but all the banks are telling everyone that it is valuable and we will see this once we start seeing IPOs pick up.
I do have two concerns about it. I detect a little bit on the buyside that one or two people, and obviously Fidelity is not one of the people in this bracket, saying “I’ve seen quite a few of these companies now, when’s the IPO going to happen? We saw them a year ago now, great business, we like it, but when are they going to do something? We’ll see them again but we’re not going to keep seeing different companies”.
If we have another difficult 12 months for IPOs I do worry that some of the buyside will be a little bit less keen to keep seeing people and it may start slowing down a little bit.
But I think that’s just a risk. If the IPO market starts coming through again I think those investors will be much more relaxed.
The other concern is that when there is a good IPO market, we have to be careful that we don’t stop doing because suddenly deals are getting done and you get lazy.
BENNETT: Yes it is always more difficult when the IPO market is hot and then you are getting companies about to list through the door, so it does make it more difficult to get those early stage meetings done.
But you’re absolutely right, Tom, we need to ensure that it does carry on through that process.
Also the IPO market is not hot at the moment, by any definition, and therefore we absolutely must use this opportunity to sow those seeds for the future. If some funds are finding it difficult to find the time for these meetings that’s fine but keeping those relationships going is very important for us as an investor frankly.
If we’re going to invest in an IPO we are going to replace an existing company in our portfolio, so we need to have conviction that this is the right company to buy and we only get conviction by knowing the company well.
KOOPMANS: But I don’t think it is going to move us a million miles away from the two week plus two week model, because that essentially is still driven by research and legal requirements for cooling off. So yes there is some flexibility as Craig has shown and you can engineer something, but as long as issuers, management teams and shareholders insist on having research as part of the IPO process — and to some extent the buy side as well we have the two plus two process. It may be one and a half plus one and a half but it doesn’t move away a million miles from there.
BENNETT: I don’t think research is the criminal here. I think the big problem that we have with the IPO timetable, is that people keep referring to it as two plus two when actually we should be pressing hard to get that down. The first two weeks — the gap between publication of research and publication of the prospectus — has no legal groundings, it’s a legal fallacy thought up by legal advisers to the banks as a litigation mitigation situation and there’s no law that says there has to be that.
COBEN: If you could send that statement to the law firms then they could reconsider, because what they’re worried about is that investors such as yourselves would have grounds for a law suit.
I actually think the bigger problem is that in Europe you don’t have public filings initially. In the US, you file your S1, it’s public and it sits there for months and months and investors have the time to do their work. In Europe you don’t have that and the time to do your work…
VAZ PINTO: …It depends on the market…
COBEN: …In most markets, and so investors rely on the research and I don’t know how many meetings I’ve gone to with investors and they haven’t even looked at the prospectus. They sit there looking at the research as if it were the disclosure document. So maybe one regulatory change that would improve things is to actually move more towards that US model.
BENNETT: I would push back on that to the extent that at this forum last year I asked when an investor in Europe has ever sued an investment bank over research. Never. Investment banks produce their research and institutional investors understand the purpose of that research. We do not rely on that research, we understand the fact that there is a prospectus coming out and that is the document we rely on.
If investment banks can push back on this and issuers and vendors can push back then we can help to accelerate the IPO process. Look at Ziggo, here’s an example where there was not a two week research black out; there was not a two week roadshow. It can be done, it should be done and it’s an easy win. We don’t have to change any laws or EU directives.
IFR: With the continued low level of equity issuance in Europe for the third successive year, what is the impact on banks and ECM as a business?
KOOPMANS: I think the biggest challenge that the ECM business faces in the years ahead will depend on what is happening to the volumes in the secondary market. The reason for that is that basically all the banks, particularly the larger banks, have been able to retain huge infrastructure around the equities business on the basis of significant secondary market volumes.
The primary business, quite frankly, has quite neatly been able to float on the back of that.
As the secondary volumes come down, the banks need to really seriously look at that infrastructure and going forwards I don’t think the model of being everything everywhere is going to be sustainable. In any single market or sector you probably have three, maybe five, that can make money, and the rest will not.
So that means people are going to need to look at where are they strong. Where they do have high levels of secondary flows they can sustain their infrastructure and small operations in some sectors or countries or regions will be eliminated
So going forwards you will see a dynamic where the banks are going to be much more reliant on specific expertise, on specific strengths where they’re going to focus. What that means for the primary business and the IPO business is that we are going to see much more the banks that have strong regional franchises or strong sector franchises become increasingly important, perhaps at the expense of some banks that are trying to be everything everywhere, because that’s no longer sustainable.
COBEN: Aren’t there barriers to exit, I mean the problem we have is that it’s very difficult for some of these banks actually to exit the equity capital markets business and so we have a surfeit of competitors. ECM is incredibly competitive, carnivorously competitive, though I hope not commoditised, and that’s one of the reasons why even if you look at the top five banks or the top three banks, the market share is much lower than it is for almost any industry that you can find.
So we are probably the closest thing to the definition of perfect competition in the microeconomic textbooks that you will find.
I don’t see that changing. There may be one or two exits from the industry, but I still think it’s going to continue to be very competitive. Where I think there is a real issue is that a number of equity capital market houses are under pressure to be in the top five of the European league tables, and sometimes banks will do irrational things in order to secure that league table position.
VAZ PINTO: There is room for a discussion in terms of league table credits and what goes in and what stays out. I think there’s always a debate about whether blocks should be part of those league tables or not, with various arguments for and against.
Clearly Europe has always been, in my view, more competitive than the US. I think that’s reflected in fees, but I actually think Europe is restructuring by looking at new models. Some houses have now felt that they can outsource their distribution and clearly not having a huge trading floor means a significant reduction in cost. Does that bring about a significant reduction in your ability to bring the right advice to clients? I think that people are looking at that and will have to make up their minds.
IFR: And that is presumably an ongoing process? We have had several moves in that direction with UniCredit, RBS (the only one to pull out entirely), Credit Agricole and Nomura.
KOOPMANS: In terms of cutting down unprofitable pieces within the equity capability, there has been much more activity there.
COBEN: Equities businesses are migrating much more towards a low touch, high technology platform which means that the involvement of sales is going to be much less going forward than it was say 10 years ago.
I don’t know if that phenomenon is widely recognised and understood by the issuer community as a lot more of the distribution responsibility will actually fall on the desks of equity capital markets departments and arguably less on the sales departments.
IFR: In that case Is one of the greatest challenges showing that ECM is not commoditised, but based on specific skill sets and knowledge-sharing throughout the team?
COBEN: I think our biggest challenge at any meeting is to differentiate ourselves because on paper many of us look quite similar and I think it is a challenge just as you face a challenge in differentiating yourselves from certain other journals that may be out there. You distinguish yourselves by the quality of your journalism; we try to do it by the quality of our distribution.
KOOPMANS: That is how we are migrating to defined franchises around specific capabilities, be it regional or sector, but that’s what we’re moving towards. People are going to focus much more on specific franchises rather than trying to do everything everywhere because they can no longer afford it.
VAZ PINTO: There are different models. I mean we know we’ve won mandates because we are the biggest trader on Euronext and therefore some issuers have said “We want to know what’s happening to our shares.”
Clearly hiving off our distribution would not work for us, though it may work for others, but everybody has to do their calculation and see which way they want to go.
KOOPMANS: That’s a perfect example, Societe Generale – France. For Jefferies it is healthcare and technology and other high growth, these are the niches that everyone is trying to define where they are the top three players.
IFR: There are also certain niches that remain open for a wider group of banks when top tier firms stay away, such as Italian FIG rights issues.
COBEN: I disagree with the characterisation that the bulge brackets have been reluctant to support periphery capital raisings on an irrational basis.
I think that there are an ample number of competitors even amongst the so-called bulge brackets. We have a tremendous amount of underwriting capability, so there’s no shortage of underwriting capacity in the European equity market. What we do have a shortage of perhaps is institutional demand for new issues but that’s a different story.
IFR: But that has been a good area for people to compete in terms of those rights issues when there’s been a quiet IPO market.
VAZ PINTO: I actually think that’s a good point because, as Reinout said, everybody cannot do everything and I think we bankers are going to have to decide, is this a client I want to support? Is this a client whose equity story I understandand that I’m prepared to back?
And firms will come at it from different points of view. Are we an important trader? Do we understand the flows? Do we have confidence that there is going to be appetite for this? Do we think the client is healthy and alive?
Well, when you’re making these big judgements in volatile markets, which clearly a number of us have had to do, you really want to make sure you are taking the decision for the right reasons.
That, I’m afraid, clears out a number of people who do not have the relationship or do not have the in-depth knowledge of the client that others around the table may have. I think in difficult situations people want to play or they don’t want to play or they may not be able to play.
IFR: So as we look at greater focus in areas where firms feel strong, does that mean we might also get to a point where deals aren’t over-banked and investors don’t have to cope with quite so many people calling?
KOOPMANS: I think the consequence is that in syndicates — there’s an element of hope in my statement — there will be a greater element of complementarity in the way syndicates are structured, with bank capabilities being complementary rather than duplicative.
It’s actually quite interesting if you analyse over the past four or five years the structure of syndicates and you look at those that had only international banks that try to be everything everywhere versus the more specialised type of proposition with either regional or sector players.
It turns out that if you look at the aftermarket performance of syndicates where there has been either only international banks or only specialists, the aftermarket performance was actually inferior to those syndicates where you had a mix of an international bank with more specialised, regional or sector bank and more complementary skills, particularly in the medium term.
The IPOs that had these diversified set of skills represented on the syndicate were actually better, which is sort of obvious because you have a broader marketing effort. It gets broader support that once the IPO investors tend to sell out there’s actually a support in the market potentially to pick up some of that stock.
It’s obvious in the short term, a little bit, but the real strength of the impact is more in the medium term. I think that is very interesting in supporting that complementary approach to skill sets in syndication.
BENNETT: When you asked the question before the meeting, what you think our top challenges for the ECM will be in the next year, I rather cheekily wrote down ‘Reducing the number of bookrunners in IPOs’ because I think that is one of the big challenges for ECM.
From our perspective, I don’t think there has been any material improvement in the composition of IPO syndicates. I think it’s something that we would all want to see happen.
I mean clearly from my side, as an investor, we do not want to have all six bookrunners working on a deal, with another four banks below them. It is not an efficient use of the time that we have and from the investment banking side; clearly I can understand exactly why you wouldn’t want that to be the case.
The big concern that I have, and I think it comes back to the conversations that have been had about the commoditisation of ECM, is that what we are losing in the large syndicates is the quality of advice which is going to the issuer.
I think issuers are losing out when they have too many banks working on a transaction, as you have a lower-quality information flow from an institutional investor to the banks and on to the issuer. I think you have less time spent by the best people at the investment banks working on the deals because they have other deals to do and they’ve got five other bookrunners on a particular transaction. I think you’re getting poorer advice going through the whole process both to the institutional investors on one side and to the issuers on the other.
I think that is something which is having a material effect on the quality of the IPO market. The problem is that no one around this table can resolve that.
COBEN: But many of those large syndicates involve IPOs with independent advisers whose purpose is to manage a process and effectively manage a team of banks. So I guess the question to ask you, Greg, is whether you think that structure is viable and appropriate for an issuer?
BENNETT: No one ever asked an investor “Do you want an independent financial adviser working on an IPO?” So, to answer the question, all I can see is the end result. I don’t know how that end result was achieved because I don’t see it. I don’t like, and I can’t think of an institutional investor that does like, the size of syndicates that we are seeing at the moment.
Whatever we need to do to try and reduce those are steps that we should take. It’s not a comment on independent advisers, good, bad or indifferent. I don’t input into that, no one ever asks me whether one should be appointed or not. So what I’m saying is on large syndicates I think that’s disadvantageous to the whole IPO process and I suspect to the value achieved in that IPO process at the end of the day, but only the issuer or their shareholders can make that determination, it’s not us the investors.
IFR: Is part of the problem that by the time you first get to meet or pitch to the company that the adviser´s already in place so you haven’t even had the chance to sort of show that you can provide all the advice they need without them?
COBEN: To be fair, usually we will have met the client several times before we have the beauty pageant whether there is an adviser or no adviser. Sometimes issuers choose an adviser because they can’t weigh the competing claims of investment banks that they are hearing. So that is one of the issues and they appoint an adviser in order to be able to manage a group of syndicate banks and I think that will tend to result in larger syndicates.
For me, sometimes a larger syndicate is advantageous, sometimes it is disadvantageous and that usually depends on how well placed we are with the client and not on some broader principle. What I would also say is that many times you have larger syndicates because issuers ‘owe’ something to a bank. So in other words syndicate sizes and syndicate structures are driven by considerations other than optimising equity distribution. That is a reality that will not go away, so an issuer may include a big, universal bank because that bank lent them money as a classic example.
JOHNSON: I don’t disagree that’s there to stay, again you only have to look at sponsor deals to see there tends to be more on their transactions because banks paid up with the LBO lending and the sponsor owes them and it’s all agreed.
In the US market they have bigger syndicates right they have people with a bookrunner role but some are passive. It’s about someone managing the process. I think people have to be prepared to be a passive bookrunner. Take the cheque, you did the lending thank you, get the league table — just don’t start polluting the process. We’ve picked the people we trust and who’s advice we believe in and that’s who we are going to listen to and we’ll let them run the deal.
That’s what happens in the US and I think that in a world where bigger syndicates are here to stay, that’s the route we have got to go down. Or else the global co-ordinator role has got to have real teeth.
KOOPMANS: That essentially is coming down to economics because the big difference in the US is that those, call them passive bookrunners or co-leads or whatever, have a substantial, bigger share of the economics. Overall it’s more economical to be in that role in the US than in Europe.
JOHNSON: I agree, but the situation where Direct Line had 11 banks, I mean the co-leads, I don’t know what the economics were, but that was just for writing research.
In the US they might have got the same cheque without writing research, would the buy-side have preferred that? I’m pretty sure they would have done if they hadn’t had 11 calls on that deal from people who were trying to send feedback in.
I think the cheque sizes might be bigger in the US, but the syndicates over here are still smaller, but I think that the issuers and we do really have to encourage people to say if I want advice, we all know the leads and the others will have to play a lesser role. I think we all have different views on the independent advisers, but they’re not going to go away and I think actually their role should be to help some of these issues and give some firm advice on it.
BENNETT: Where we have six bookrunners and two of them may be global co-ordinators and there are four bookrunners, the six of them will still go around actively marketing and actively trying to generate and get the order. We have had situations in recent weeks where we have had bookrunners phone up going “I’m the bookrunner on this deal, you’ve gotta give me the order.” And we say we’ve given it to the global co-ordinator. “But I’m a bookrunner; I’ve got to have the order” they reply.
That’s just not on and I think we need to, again it’s to the issuers and their advisers, whether that be an integrated investment bank or an independent adviser, to make the points to say what’s just been said now — “You are a co-bookrunner.”
This is now a title that exists, or passive bookrunner, which is still only just on the cusp of coming in to Europe, but either way these are the distribution agents and we want them to do the distribution and you sit down and write research, but it’s not a distribution role you are being paid for.
IFR: This is where I’ll confess league tables do have a role to play as the moment anyone is indicated to be passive, they’re out, they won’t get any league table credit. That’s why the co-bookrunner role was invented.
COBEN: League tables distort behaviour and in a lot of unproductive, unconstructive ways and there is no question that people are desperate to be a bookrunner simply for the league table credit and often they don’t even get paid very much and will get paid much less than the global co-ordinators.
IFR: But, in theory if people are getting to their specialities and focusing on those then the broader league tables won’t matter so much and what will matter is the tombstones that are in the their pitch book and how recent they are and how relevant. In that sense that might help to change behaviour a little bit.
Looking more specifically at the first quarter of 2013, what are expectations for activity? The year looks to be ending well, but it always takes half the quarter to get going in ECM. Will that be the case again next year?
KOOPMANS: I think if you look across the product spectrum in equities, and I’m not talking only in terms of IPOs, and recognise how the pipeline has developed, I’m pretty bullish for the first quarter, especially around some of the themes that I mentioned earlier such as M&A considerations and the equity-linked dynamics.
It certainly looks better than it has pretty much for the past two years in terms of the breadth of the dialogue, of the activity and the type of transactions that are being lined up. Now obviously they might not all get done and there remains uncertainty, but it’s shaping up quite nicely.
COBEN: I think it will depend on whether the fiscal cliff is avoided and overall on the macroeconomic environment. Q1 is always slower than Q2; we are a seasonable business, a bit like certain resorts in Southern Spain, but that being said I think it will be driven in large part by what happens at the macro level.
IFR: So we have to cross our fingers?
COBEN: Yes, but in past years we’ve had some very strong issuance from banks, we’ve had bank rights issues which have generated large amounts of volumes and I think the schedule of bank re-capitalisations will also be driven in part by developments in the European theatre. So stress tests, the requirements of regulators and so forth.
KOOPMANS: But there’s two aspects of this, there is size, in terms of large deals for recapitalisation. The other thing is actually the number of deals and what currently is happening is, if you look in the E&P space or in healthcare or technology, some of the more growth-oriented sectors, there is quite a broad range of activity that’s developing. We may not have many of the large recapitalisation and multi-billion dollar types of transactions, but the number of deals will certainly become much more acceptable than what we have seen in the past.