IFR European ECM Roundtable: Part 2
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IFR: We mentioned earlier about how active sponsors have been this year and to what extent that is driving IPO volumes, and providing everyone with the opportunity to lose money on blocks. Are investors differentiating between the sponsors they consider to be the best run? And which understand ECM best?
Craig Coben, Bank of America Merrill Lynch: No.
IFR: Shouldn’t they be?
Craig Coben, Bank of America Merrill Lynch: No. The market knows what the interests of sponsors are. It’s actually very difficult to generalise about sponsors, particularly when each one has a number of different partners. But often the success or failure of a deal has nothing to do with the sponsor and everything to do with the company and the market conditions prevailing at the time. The fact is banks and investors approach these placements on their own merits.
Luis Vaz-Pinto, Societe Generale: It’s an old chestnut but we all analyse the performance of sponsor IPOs versus other IPOs and generally sponsor IPOs seem to perform better.
IFR: They always have – but that’s never changed the fact that sponsor IPOs often seem to get a harder ride.
Craig Coben, Bank of America Merrill Lynch: It‘s because they tend to be the better companies. Many of the low-quality companies that IPO would not have been held by a sponsor. So there’s a selection bias in the data.
IFR: You’ve been winning the battle in the dual-track this year. It’s been a long time since ECM was preferred for a partially exit compared to a full exit through a sale.
Reinout Koopmans, Jefferies: Multiples are high and sponsors, from a financing perspective, are typically backward looking while the earnings are not there yet. So this is the ideal window. That puts IPOs on the best footing we have seen for a decade, in terms of the attraction of public markets versus private equity.
That is going to change. Earnings are going to pick up and we see broad economic recovery, so private equity will again become more competitive. But for the time being it is clear that in any dual track, the public markets have the upper hand because of the high multiples and the forward-looking nature of public markets.
IFR: When it comes to sell downs, accelerated activity has clearly dominated. A portion of that has been on risk, and not necessarily the majority, and some of that has come through auctions. The risk portion is getting disproportionate attention, despite so much being done on an agency basis, but why are banks so keen to run risk business?
Craig Coben, Bank of America Merrill Lynch: First of all I think it says more about the editorial policy at IFR! You probably pay a little bit more attention to it than it deserves. But second, we want to do blocks because our clients expect it of us, sometimes they want us to commit capital. We do it because if we think we know the stock well we think we can achieve an acceptable return on the placement.
Sometimes we do it for league table credit, although I for one don’t fetishise about the league tables the way others do, including members of the media.
We want to remain active in the block trade business but like everything else you have to choose your priorities and show measured aggression when you think you have a competitive advantage.
IFR: It is a very efficient process for distributing stock in a listed company.
Luis Vaz-Pinto, Societe Generale: Particularly in volatile markets which we’ve seen recently. We expect to see fewer of those transactions as markets consolidate. There should be better value for sellers doing fully-marketed offerings, or deals on a best efforts basis, as opposed to a risk basis.
The truth is that some investors are completely fed up with blocks. Deals are getting shoved down their throats which shouldn’t be. With a bit more care and attention it should be possible to achieve a better result all round, for the seller and the buyer.
In a volatile market, where people were unsure about market conditions, the block made sense. From that point of view, yes, it is an efficient process. You call up 10 banks and 10 banks put in their slips of paper an hour later and you just pick the best one. But is that necessarily the best thing for the issuer? Maybe not if the trade goes badly and the bank is left holding stock and crating an overhang, particularly when the seller happens to be a long-term holder in the company and still has a stake.
Konstantin Dombrowski, SIX Swiss Exchange: I’m slightly concerned about this practice becoming more mainstream. It actually takes liquidity out of the secondary markets. Go back five or six years ago, that block might have been drip fed into the secondary market. People need to think about that: block trades draw liquidity out of the secondary markets, who are struggling with liquidity nowadays. It enforces the trend.
Luis Vaz-Pinto, Societe Generale: Some clients prefer a quiet dribble out to a very public block. There are ways to enhance that to get a better result overall, particularly in rising or volatile markets. You can combine the two. It’s far less sexy and much less adrenalin raising.
Craig Coben, Bank of America Merrill Lynch: And it takes a lot longer.
Luis Vaz-Pinto, Societe Generale: And it takes a lot longer too. You have to trust the markets because you might have exposure of a month or so, depending on the relative size. But there are things you can do with equity derivatives to help get the right result. I expect more clients to go that way. Blocks are simple and effective, but sometimes misguided.
Reinout Koopmans, Jefferies: One positive from this cycle in the IPOs and follow-on business is that some features have become more like the US in terms of quick, speedy offerings as opposed to the IPO. We used to have an environment here in Europe where long lock ups and overhangs dominated, where the primary focus was from the buyside.
In this cycle that has shifted, now it‘s about speed and liquidity, and the benefits of that increased liquidity. The follow-on offerings we have sold have been a lot faster than what we’ve been used to in the past, and it‘s all about the benefits of liquidity. That’s a healthy development. Now, within a relatively short period of time, you can get 70%–80% of the free-flow out there.
IFR: Do people often take the dribble out option? We don‘t see that, it wouldn’t be as public. Do you often get to have that conversation?
Luis Vaz-Pinto, Societe Generale: It depends on the relationship you have with your client. If you’re the trusted adviser and you have a dialogue with the client and he’s saying, “Look, these are my objectives”, it may be that a dribble out, structured or not, is the best way to achieve that. But if at 5pm you get the phone call saying, “What’s your price?” then it‘s too late for that conversation. But in that situation you don’t really have a close client relationship.
Craig Coben, Bank of America Merrill Lynch: It’s a function of size. People don’t want to dribble out for three months. Realistically, you can’t account for more than a fifth of the trading volume, so most of the blocks covered in IFR are not really amenable to a dribble out.
Luis Vaz-Pinto, Societe Generale: I disagree. Anything that’s 10–15 days‘ volume, do the maths.
Craig Coben, Bank of America Merrill Lynch: If it’s 10 days‘ volume that’s 50 days of trading unless you can find a buyer on the other side.
Luis Vaz-Pinto, Societe Generale: When you do 20%, mixing it up with blocks, you can do it much faster than that.
Jens Voss, Commerzbank: Sometimes the right mix is to start with a dribble but tap whatever liquidity is there. Don’t have a specific size in mind, but follow on with the block when you can. From what we see clients that are more frequently in this situation tend to be more comfortable doing a dribble rather than a block.
But it really depends on the overall environment. If you get an aggressive discount, most people will opt to get it done right away. No one wants to be stuck for three months or more with an asset when a decision has been made to sell.
IFR: Would you rather that those auction deals didn’t exist? Do they ruin your enjoyment of everything else?
Craig Coben, Bank of America Merrill Lynch: Auctions commoditise equity distribution. Naturally we would prefer it if they didn’t exist but they are a reality, they won’t go away. We have to adapt.
IFR: Is it not the case that the positive market backdrop means that when banks do get it wrong – and many have this year – that more often than not you get bailed out. When market conditions are less favourable you may not be so lucky. At that point saying “they’re here to stay” doesn’t necessarily work. Or you may not be here to stay.
Craig Coben, Bank of America Merrill Lynch: I may not be here to stay anyway! Thank you for reminding me about my career mortality!
Auctions are a reality, we don’t like them but we have to deal with them. Nobody likes being commoditised. Just as you want people to pay for your magazine, we like to be paid for our services.
But the truth is, because of the other factors we’ve discussed, the league table, the desire to do right by our clients, we sometimes do have to step up in these auctions. But you have to be very careful. You’re right, in a normalised market you can lose a lot of money.
Konstantin Dombrowski, SIX Swiss Exchange: This is also why all those electronic trading services offered to get those blocks into the public domain hasn’t really worked out. It’s a relationship driven business, the banks don’t want it to be commoditised. Nobody is actually looking for an IT solution to this, nobody wants to open the black box.
Luis Vaz-Pinto, Societe Generale: That’s a slightly different discussion, about when it is appropriate to do bookbuilt IPO versus a Dutch auction. Was it Google that did this?
IFR: Yes. Or on-screen bookbuilding as in India.
Luis Vaz-Pinto, Societe Generale: Exactly, on-screen bookbuilding. Or whether there is added value hand-selecting investors, which is what we’ve just discussed here. I think that’s a slightly different discussion.
IFR: Is there anything you can do to improve the outcomes of those auction transactions? Is it just about sticking to what you know, the stocks you know, the flows you know, the investors that you have a good visibility on? In theory then only the right people will bid the tight price.
Reinout Koopmans, Jefferies: It’s all about discipline. It‘s about selecting the situation you want to be in from a distribution perspective. The biggest fee I earned in my career was on a competitive situation. If you do it right, you get it right, you can make a lot of money. It is risky, but for me it’s a matter of discipline, whether to play or not. If you don‘t have a differentiated angle, why would you?
Jens Voss, Commerzbank: Even in situations where the clients are not asking for such discipline from the banks, that is likely to change when the market sentiment deteriorates and people are left with serious losses.
On the other hand we’ve seen deals recently in the market that were not priced adequately, then did fine in the aftermarket simply because the market conditions were favourable. There have been situations where people made more money than originally expected.
IFR: That’s partly why it’s been so topical this year. Traditionally when someone got it wrong they would disappear from subsequent auctions, and gradually there would be fewer willing participants and volume eased.
This year where blocks had to be re-priced or haven’t been fully distributed, market conditions have been such that a week later they’re above water. So you haven’t had that thinning out process.
Earlier today at our conference someone said blocks aren’t about distribution, they’re about risk management. What do you make of that statement?
Reinout Koopmans, Jefferies: I understand it but I don’t necessarily agree with it. As long as a block is about distribution, you have a differentiated angle, you know where it is going, you know where the price is going. It becomes a trading call.
IFR: Should it ever be about risk management?
Craig Coben, Bank of America Merrill Lynch: Of course. You could end up long the stock and you have to consider what your options are if your distribution call isn’t accurate. We’re all fallible. It is both distribution and risk management, I don’t see them as separate. Good distribution helps you to manage risk but you also have to consider the possibility you will be left long. In which case what are the available hedges? How feasible or expensive are they? Can you re-price it and cut your losses?
You have to think around all these angles whenever you approach these situations because your judgement on distribution may be wrong. As well as you may know that stock, there is always a margin of error.
IFR: You are often winning a deal to maintain a relationship with a seller, is there an impact on your relationship with buyers if it goes wrong?
Craig Coben, Bank of America Merrill Lynch: If you sell stock to an investor and it trades poorly, that can have an impact on your relationship with the investor, yes. If you don’t sell a block and they don’t take it and you lose money on it, the investor is probably indifferent. That is not their problem, it is our problem.
IFR: As ever, FIG constitutes a third of volume and it looks set to stay that way. This year demonstrates how difficult it is for banks to plan ahead when it comes to capital requirements. Things can change, particularly with regulators. Does that mean issuance is inevitably reactive? Financials have seemed to be on the back foot.
Craig Coben, Bank of America Merrill Lynch: I’m not sure I agree. A lot of the issuance has been secondary sell-downs by governments of large bank stakes, in response to very strong share price performance. There haven’t been that many capital increases. The few there have been have been sizeable.
The question banks face is whether to recapitalise now at fairly attractive price levels, but before the asset quality review is carried out, or if they should wait for the AQR and then recap afterwards? That to me is going to be the big question for the end of this year and 2014: do you go before or after AQR?
IFR: Which way do you lean?
Craig Coben, Bank of America Merrill Lynch: It depends on the bank. If a bank knows it faces a capital shortfall it might as well go now. The danger with that is the regulators might move the goalposts and ask for more afterwards anyway, so there was no benefit to going early.
It depends on the jurisdiction as well. Some local regulators are more accommodating than others.
IFR: In theory you’re slightly safer in terms of moving the goalposts because they can’t change how equity is rated. Take Barclays, it suffered by going early with its CoCos, the regulator moved the goalposts and it doesn’t count.
Craig Coben, Bank of America Merrill Lynch: You don’t know how they’re going to treat your assets. You don’t know how they’re going to treat your capital. You don’t know whether it will be the leverage ratio or the Core Equity Tier 1 ratio that matters.
There’s still a lot of uncertainty so going early has its own risks for certain banks. Some banks will go early, we’ve already seen a couple. There will probably be a couple more.
Konstantin Dombrowski, SIX Swiss Exchange: Is there still enough capacity among buyers for the upcoming issuance of equity? Obviously it depends to some extent on the decisions the regulators make.
Craig Coben, Bank of America Merrill Lynch: Bank issuance? Well, Barclays and Lloyds came in fairly short order and there was no shortage of capital to support those stocks. You managed to do a placement for Nordea at the same time and you had Sabadell kicking around as well. The short answer is yes, there is demand, there is liquidity out there.
IFR: If people are looking for exposure to improving consumer sentiment, national banks are a pretty good place to start.
Jens Voss, Commerzbank: We expect regulation to get tighter, that trend will continue. FIG will play an important role in the future as well.
IFR: Do you feel like you are in a position where you can tell an investor looking to buy bank stock that this is it, without thinking about the second or third time you‘ll be asked to put your hand in your pocket?
This is part of the issue the UK government faces, isn’t it? They want to put the bank stocks with retail but they are worried about the threat of future recapitalisation requirements. Is that just an inevitable part of owning bank stock?
Luis Vaz-Pinto, Societe Generale: You describe it as being on the back foot, I think it’s just the regulatory uncertainty, especially with the changes to the regulatory bodies themselves in the past year, headed by new people with their own views.
Then there is the European dialogue. Different European countries have different ideas about how stock should be regulated. Not to mention the transatlantic issue, has the US got it right or has Europe got it right? Taken together it has been incredibly difficult for banks to know how to play it.