This article examines recent IPOs of private equity-owned companies in the US, the UK and Spain and the broader trends they reveal.
The end of 2009 and the beginning of 2010 saw a modest resurgence in initial public offerings (www.practicallaw.com/9-107-6264) (IPOs) of private equity-backed companies. Despite the improving market outlook since the financial crisis, launching an IPO continues to be fraught with uncertainty. However, the need for private equity funds to offload portfolio companies and reduce debt levels means we are likely to continue to see other private equity-backed companies exploring this route throughout the remainder of 2010.
This article examines recent IPOs of private equity-owned companies in the US and Europe and the trends they reveal. The deals examined include:
The IPO of Symetra Financial Corporation (Symetra) on the New York Stock Exchange (NYSE).
The IPO of the Gartmore Group (Gartmore) on the London Stock Exchange (LSE).
The IPO of Amadeus on the Madrid Stock Exchange.
Extreme market volatility and lack of investor appetite during the financial crisis adversely impacted on the ability of private equity houses to exit their portfolio companies through a stock market flotation (www.practicallaw.com/5-107-5775). According to Dealogic, the total market capitalisation (www.practicallaw.com/6-107-6816) of private equity-backed company IPOs between 2007 and 2009 was:
US$55.8 billion (about EUR40.5 billion) in 2007.
US$11 billion (about EUR8.2 billion) in 2008.
US$16.4 billion (about EUR11.9 billion) in 2009.
Data compiled by Ernst & Young (E&Y) shows that, in 2009, private equity houses completed 461 exit transactions worth US$80.9 billion (about EUR64 billion) worldwide; a decline in relation to 2008, which saw 668 exits worth US$150.7 billion (about EUR119.7 billion) (see Ernst & Young, 2010 global private equity watch: New horizons emerge) (E&Y report).
In terms of specific exit methods:
IPOs accounted for 20% of all global private equity exits in 2009.
Trade sales comprised 64% of divestments.
Secondary buyouts (www.practicallaw.com/9-382-6070) made up the remaining 16% of exits.
For an overview of the main exit routes favoured by private equity houses, see Practice Note, Private equity exit routes (www.practicallaw.com/4-107-4314).
As the E&Y report highlights, these figures are subject to slight regional variations. While IPO exits are more common in the US and, increasingly, Asia, trade sales are more regularly seen in Europe. Secondary buyouts are also more frequent in Europe, where there was a surge of such deals in early 2010.
For an overview of recent private equity buyouts in Europe and the US, see Article, Private equity buyouts after the crisis (www.practicallaw.com/8-502-1084).
Improved access to the equity markets in the fourth quarter of 2009 (Q4 2009) accounted for a large part of last year's modest IPO recovery and encouraged private equity houses to line up a number of portfolio companies for a flotation; although this process was commonly pursued in parallel with a competitive auction sale (known as a dual-track).
As a result of developments in Q4 2009, commentators predicted that private equity-owned company flotations would dominate the 2010 IPO landscape. For example, in September 2009, Standard & Poor’s, the rating agency (www.practicallaw.com/8-203-8993), identified 19 European private equity-sponsored companies that could go public during 2010 (see Standard & Poor’s, IPO Candidates queue up as sponsors seek exit route).
Global IPO activity has increased in early 2010 compared to 2009. According to Renaissance Capital, the research firm, the first quarter of 2010 (Q1 2010) was the second busiest since late 2007, and saw more than 100 flotations with a total market capitalisation of US$45 billion (about EUR34 billion) (see Renaissance Capital, Global IPO Review:1st Quarter 2010)
Although IPOs of private equity-backed companies increased during Q1 2010, there were fewer transactions than initially predicted. Despite various success stories, several announced flotations were cancelled or postponed as a result of market volatility, lack of investor appetite or, in some cases, a more attractive offer from an auction bidder. Additionally, many IPOs priced at the bottom of or below their target range partly as a result of disagreements between investors and issuers over valuations.
The fate of private equity IPO exits in early 2010 also varied depending on the jurisdiction of the offering. For instance:
Private equity-backed companies accounted for a large percentage of US IPOs.
The UK witnessed a mixture of successful IPOs and prominent cancellations.
Two of the largest flotations took place in Germany.
The biggest European IPO, at the time of publication, happened in Spain.
Activity in the US equity markets during Q4 2009 reinforced predictions of a looming rise in portfolio company IPOs. Several high-profile transactions took place during this period, including Dollar General Corporation's US$716 million (about EUR539.8 million) IPO, the largest US retail stock market listing in a decade (see PLC What's Market US, Dollar General Corporation IPO).
In fact, private equity-backed companies accounted for all NYSE IPOs in December 2009. These included the following:
KAR Auction Services (see PLC US What's Market, KAR Auction Services, Inc. IPO).
Cobalt International Energy (see PLC US What's Market Cobalt International Energy, Inc. IPO).
Team Health Holdings (see PLC US What's Market, Team Health Holdings, Inc. IPO).
Kraton Performance Polymers (see PLC US What's Market, Kraton Performance Polymers, Inc. IPO).
Data by Renaissance Capital suggests that the volume of private equity-backed IPOs continued to increase in early 2010. As at 26 April 2010:
Ten private equity-backed companies had floated on the NYSE (27% of all IPOs).
These deals raised US$2.2 billion (about EUR1.7 billion); 37% of all quarterly IPO proceeds (compared to 30% for the whole of 2009).
Three of the largest IPOs involved companies backed by private equity. In particular:
Sensata Technologies (US$569 million (about EUR472 million));
Symetra Financial Corporation (Symetra) (US$364.8 million (about EUR303 million)) (see below) and PLC US What's Market US, Symetra Financial Corporation Inc IPO);
Primerica (US$320.4 million (about EUR265.8)) (see PLC What's Market US, Primerica Inc IPO).
According to Bill Whelan a capital markets partner at Cravath Swaine & Moore LLP in New York, the fact that the sub-prime crisis, subsequent recession and eventual recovery affected the US before Europe partly explains why the volume of private equity-backed IPOs in recent months has been noticeably higher in the US than in the UK and other European jurisdictions. As Whelan explains, "Although the recession did not officially begin until late 2008, from a market perspective, private equity transactions, be it IPOs or leveraged buyouts (www.practicallaw.com/4-200-1393) (LBOs), began declining dramatically in the US before they did elsewhere. Likewise, when US companies filed their audited reports for the 2008 financial year in the spring of 2009, it looked as if, in spite of ongoing difficulties, there were no further looming Lehman Brothers-type collapses. At that point, we started seeing issuers and investors gearing up for IPOs after nearly 18 months of severely reduced activity; there was a lot of pent-up demand."
Whelan also notes that, although the Greek crisis and similar debt-related woes in other Eurozone jurisdictions are affecting markets worldwide, their impact in European bourses has so far been greater than in the US.
Symetra, which provides retirement plans, employee benefits, annuities and life insurance products, was the first flagship private equity-backed company to list its shares on the NYSE in 2010. The company was established in 2004 by an investor group led by White Mountains Insurance Group (White Mountains), and Berkshire Hathaway (each with a 26.3% stake) and comprising investment funds, such as Vestar Capital Partners, OZ Master Fund, Highfields Capital Management, Caxton Associates and Franklin Mutual Advisers.
Earlier IPO filing and cancellation. Symetra initially filed for an IPO in June 2007, in which it aimed to raise US$750 million (about EUR590 million) (see Symetra Financial Corporation, Form S-1, Form S-1, Registration statement under the Securities Act of 1933, 29 June 2007). However, the company postponed its flotation in November 2007, citing unfavourable market conditions.
Whelan led the team advising Symetra on both its aborted 2007 IPO attempt and its subsequent successful 2010 flotation. He recalls: "The company had a strong case for an IPO in 2007 but at that point we were starting to see signs of turmoil in the equity markets. Although both management and shareholders wanted to go public, they were only prepared to do so at an adequate price. When market conditions deteriorated, Symetra's management decided that, while an IPO was still feasible, they did not want to float at a price that undervalued the company." Whelan believes that Symetra's decision to postpone their IPO plans in 2007 reassured investors that the Berkshire Hathaway and White Mountains were disciplined sellers, which ultimately helped Symetra succeed in its 2010 flotation.
According to Symetra's prospectus, the size of the offering was US$364.8 million (about EUR286.9 million). The total number of shares included in the IPO were 30.4 million, priced between US$12 (EUR9.4) and US$14 (EUR11.1), and divided into:
20,699,510 primary shares to be issued by the company.
9,700,490 secondary shares to be sold by existing shareholders.
In addition, a Greenshoe (www.practicallaw.com/5-107-6666) option (which is a means of stabilizing a new share issue) was subsequently exercised, allowing underwriters to purchase a further 4.56 million shares of common stock from the company at the IPO price (minus the underwriting discount) for 30 days after listing.
Pricing. Symetra's shares began trading on 21 January 2010. The opening price of US$12 (about EUR9.5) was at the low end of the company's price range, which is consistent with recent US IPOs. As Whelan notes, only a few recently-listed companies in the US have priced inside their range. Data compiled by Renaissance Capital confirms this trend. During Q1 2010:
44% of US IPOs priced below their price ranges.
Five out of six private equity-backed flotations priced below the midpoint of their price range; the only exception being SS&C Technology (see PLC US, What's Market, SS&C Technologies Holdings, Inc. IPO).
According to Whelan, "As a result of continuing nervousness in the market, IPO discount levels are greater than usual. Many investors are finding that the price ranges in offering documents, even when they allow for discount, are too high". Additionally, the fact that so many companies were unable to get to market during the downturn has increased the willingness of some issuers to accept bigger than usual discounts. "In Symetra's case, however, investors acknowledged that Berkshire Hathaway and White Mountains were sophisticated sellers and the scope for going below the target range was limited," notes Whelan.
Sellers retaining majority ownership. Berkshire Hathaway and White Mountains agreed to hold on to their shares and retain their majority ownership of Symetra after the offering. This decision contrasts with the company's earlier IPO attempt, when they stated their intention to reduce their respective stakes to 15.2%. Whelan believes that Berkshire Hathaway's and White Mountains's decision to keep their shares was instrumental to the flotation's success, as it reassured the market that the original buyers, both of whom are highly regarded investors, "had continuing confidence in the company".
Commentators predicted high volumes of UK IPO activity during 2010. Indeed, the majority of private equity portfolio companies in the S&P report (see above) were expected to list their shares on the Main Market of the LSE.
As it turned out, several private equity-backed companies which joined the "flotation gold rush" in late 2009 and early 2010 met a tepid reaction from investors, especially during February 2010 when several IPOs, including those of Travelport and New Look, were cancelled or postponed (see box: Challenges facing private equity-owned IPO candidates).
According to Jonathan Baird, a partner in Freshfields Bruckhaus Deringer LLP's London office, at the beginning of 2010, there were hopes that Gartmore's IPO (see below) along with Delta-Lloyd's listing on Euronext Amsterdam, would re-open the European public markets for private equity-sponsored companies. "However, based on the outcome of some subsequently announced offerings, it looks as if Gartmore may have caught a window of opportunity rather than opening the floodgates," says Baird.
Gartmore, an asset manager, was the first European private equity-backed company to float on the Main Market of the LSE since the financial crisis began in mid-2007 (see PLC What’s Market, Gartmore Group Limited IPO).
In 2006, Hellman & Friedman backed a GBP500 million (about EUR604 million) management buyout (www.practicallaw.com/4-107-6803) (MBO) of Gartmore. Like Symetra in the US, Gartmore considered a flotation back in 2007, but postponed it following the onset of the financial crisis.
New premium listing requirements. According to Baird, who was one of the partners advising Gartmore on its flotation, although the Gartmore holding company is incorporated in Cayman Islands, they were keen on obtaining a FTSE listing inclusion and a premium listing (www.practicallaw.com/0-501-4233) on the LSE under the reforms to the UK listing regime that came into force on 1 April 2010. A premium listing requires heightened investor protection standards, and is therefore considered to increase shareholder confidence.
To comply with the FTSE and premium listing requirements, Gartmore included some specific provisions in its articles. These changes, which are discussed in the company's prospectus (www.practicallaw.com/6-500-9479) include:
Providing for UK-style pre-emption rights in respect of any future issues of ordinary shares.
Incorporating certain provisions of the City Code on Takeovers and Mergers (www.practicallaw.com/8-107-5905) including provisions dealing with compulsory takeover offers (Rule 9).
For further information on recent changes to the listing regime, see Practice note, Differences between a premium and standard listing of shares (www.practicallaw.com/2-501-7607) and Listing regime review: 6 April 2010 changes (www.practicallaw.com/5-501-5503). For a basic overview of companies and other business vehicles in the Cayman Islands, see Doing Business in Cayman Islands (www.practicallaw.com/6-500-7017).
Debt. Deleveraging has been a key motive behind most recent private equity-backed IPOs.
According to Gartmore's prospectus, the company intended to use the net proceeds from the IPO to repay about GBP315 million (about EUR380 million) of the company’s debt, which stood at GBP400 million (about EUR483 million) at the time of the IPO announcement (the repayment figure was later reduced to GBP280 (about EUR338 million)).
Gartmore shows how, despite the general investor apprehension about the amounts of debt that private equity companies are carrying, carefully-planned debt financing arrangements can actually contribute to a flotation's success. According to Baird, "Good forward-thinking at the time that Gartmore's senior credit agreement was put in place combined with successful negotiations with the senior lenders before the IPO enabled Gartmore to keep the facility, which had commercially attractive economic terms following listing".
One condition imposed by the facility related to Gartmore's leverage (www.practicallaw.com/7-107-6316). According to paragraph 5.2 of Part VII of Gartmore's prospectus, if the company's leverage ratio exceeded 3:1 at the time of the flotation (which Gartmore's senior credit agreement defines as including admission to trading), Gartmore would be obliged to use its IPO proceeds to prepay loans until the ratio was reduced to 3:1 or lower.
Independent financial advisers. Gartmore's broad-based group of underwriting and financial advisers included Ondra LLP, an independent corporate finance advisory firm. Ondra's involvement in this transaction evidences the increasing visibility of boutique financial advisers in IPOs. As Baird explains, "Independent advisory firms are not part of the underwriting syndicate, which frees them from some potential conflicts of interest. Because of their purely advisory role, these advisers can help guide the issuer if and when its interests not entirely aligned with those of the underwriters. They can also help the issuer have a better understanding of the underwriters' role in the IPO process"
Jupiter Asset Management, which at the time of writing was preparing for an IPO, also included an independent financial adviser (Lexicon Partners) among its list of advisers.
Staggered lock-in arrangements. The IPO allowed Gartmore's staff and management to sell up to 20% of their holdings on listing. Their ability to dispose of the remainder of their shares is subject to a "staggered lock-in arrangement", according to which they will be able to sell:
One third of their shares in March 2011.
One third of their shares in March 2012.
The final third in March 2013 (see paragraph 11 of Part VI of Gartmore's prospectus (www.practicallaw.com/7-500-9493)).
Baird says this arrangement reflects the fact that asset management companies, such as Gartmore, can have large numbers of employee-shareholders (many of whom are highly knowledgeable about stock market investing), whose interests need to be reconciled with those of new investors. Staggered lock-in arrangements provide a way of incentivising management while reassuring new investors that they will not be faced with large numbers of dumped management shares shortly after the offering. Similar arrangements have been used on other asset manager IPOs.
Supplementary prospectus. Market volatility forced Gartmore to cut its offering price from GBP2.50 - 3.30 (about EUR2.58 - 3.87) to GBP2.20 - 2.50 (about EUR2.58 - 2.93) per ordinary share from the mid-point, a reduction which led to the publication of a supplementary prospectus on 11 December 2009.
The publication of a supplementary prospectus can trigger investor withdrawal rights under section 87Q(4) of the Financial Services and Markets Act 2000 (FSMA), Baird notes that "this was a risk we just had to take". The publication of a supplementary prospectus does not, however, appear to have caused any major setbacks for Gartmore, which raised GBP676 million (about EUR816 million) when its shares started trading on the LSE on 16 December 2009.
For background on supplementary prospectuses and their potential impact on a flotation, see Practice note, Listing requirements and the prospectus (www.practicallaw.com/4-107-3994).
The financial crisis had a strong impact on the Spanish IPO market. Iberdrola Renovables's US$6 billion (about EUR4.8 billion) IPO in December 2007 was followed by a drought in new listings. Amadeus's landmark flotation on 29 April 2010, the largest European IPO of the year so far, ended this long hiatus in Spanish equity capital markets activity.
BC Partners and Cinven acquired Amadeus, a global provider of technology and distribution solutions for the travel industry ,in 2007 for EUR4.34 billion (about US$5.5 billion) which, at the time, was the largest LBO in Spanish history.
Amadeus's IPO involved an offering of 119,684,662 shares, representing 26.74% of the company's share capital post-IPO, plus a Greenshoe option to purchase up to 11,968,466 shares, representing about 10% of the total number of securities initially offered. Amadeus's shares can be traded on any of the four main Spanish Stock Exchanges through the Automated Quotation System (Sistema de Interconexión Bursátil).
Despite recent volatility in the European capital markets, Amadeus completed a successful EUR1.32 billion (about US$1.63 billion) IPO on 29 April 2010. According to media reports:
The flotation generated profits for BC Partners and Cinven of between 6 and 7 times their initial equity investment.
Amadeus's final price of EUR11 was above the midpoint of its EUR9.2- 12.2 price range.
The flotation was four times oversubscribed. Around 300 investors participated in the transaction, compared to about 100 investors in IPOs earlier in the year.
Gabriel Núñez a partner in Uría Menéndez's capital markets team and one of the lead advisers to Amadeus's underwriting bank syndicate in its IPO, attributes the transaction's success to several factors.
The strength of the company, specifically its strong management and global presence, which makes the company more resilient to geographical risk.
Amadeus's relatively low gearing (www.practicallaw.com/0-107-6640) level which, at the time of flotation stood at roughly 3.5 times earnings before interest, tax, depreciation and amortisation (EBITDA (www.practicallaw.com/0-107-6640)) almost half the debt levels of other recent IPO applicants.
The timing of the offering. Amadeus was initially looking at a flotation before Easter, but delayed the process following Travelport's cancellation (see Discontent about management bonus schemes below) and the onset of the Greek debt crisis. While the public markets remain volatile at the time of publication, the delay allowed Amadeus to benefit from calmer conditions.
For an overview of the underwriting and bookbuilding process in an IPO, see Practice note Underwriting and bookbuilding (www.practicallaw.com/1-107-3995).
Due diligence. Because of the complex hi-tech nature of Amadeus's business and the company's global presence, Núñez notes that the due diligence exercise for the flotation was particularly challenging. For instance, the lack of a listed peer forced Amadeus's advisers to analyse a range of listed companies, such as those operating payment processing systems, to benchmark against Amadeus's proposed price range.
For an overview of the type of due diligence and notification carried out in connection with an IPO, see Practice note, Due diligence and verification (www.practicallaw.com/8-107-3992).
Offer for subscription fixed in cash. Amadeus's IPO comprised an offer for subscription (oferta pública de suscripción) and an offer for sale (oferta pública de venta), which allowed existing shareholders to dispose of a total of 36,957,382 shares. The offer for sale had a minimum target free-float of 25% of Amadeus's market capitalisation after the offering.
Núñez says that one of the IPO's most significant technical features was the fact that the offer for subscription was "fixed in cash". In other words, Amadeus was to issue as many ordinary shares as were necessary to reach a pre-established cash target of EUR910 million (about US$1.12 billion). Each share was priced at EUR0.001 (about US$0.00123).
As Núñez notes, in order to make an offer to subscribe for what was, essentially, an indeterminate number of shares, Amadeus had to negotiate and obtain specific approval from the Comisión Nacional del Mercado de Valores, the Spanish securities regulator.
Although forecasts regarding levels of private equity-backed IPO activity for the rest of 2010 vary from jurisdiction to jurisdiction, it is likely that private equity houses will continue to look to the public markets as a means of deleveraging their portfolio companies or exiting their investments as the year progresses.
Speaking about the US, Whelan notes that, "A lot of sponsors are looking ahead to two or three years from now and seeing a substantial amount of indebtedness coming due. They therefore need ways to deleverage their portfolio companies. The high yield market, which was very strong until recently, is one option, but floating your company on the stock market has the obvious benefit of allowing the sponsor to subsequently sell off his position (partially or completely) as well as reducing debt." Whelan expects several companies to go forward with a flotation as long as the markets remain stable.
Baird believes that, although activity in the UK has not been as buoyant as initially predicted, there are opportunities for quality companies at the right price. "It is not like it was 18 months ago, when people thought the market was shut. Having said that, investors appear to be selective and it is hard to say with certainty that every deal will get done in the time available, especially given that private equity investors looking to exit and/or refinance their portfolio companies usually operate with limited time horizons."
Núñez sees a number of deals in the pipeline in Spain. Some transactions have been put on hold over the past few weeks but there are also several new projects. "However, it is going to be a difficult year in light of Spain's debt difficulties. I hope that the new European financial package to support Eurozone countries and the European deficit adjustment measures prove to be enough to restore confidence and stability. In addition, hopefully investors will acknowledge that many IBEX companies have a global, as opposed to a purely local Spanish presence, which will make them more resilient to Spain's sovereign debt woes." He also notes that activity in the Mercado Alternativo Bursatil, the Spanish equivalent of AIM, is really beginning to take off.
Gartmore's UK IPO was followed by a number of cancelled private equity-backed IPO's in February 2010. In addition to disagreements over pricing and company valuations, the reasons behind the unenthusiastic public market response to some private equity-backed companies include apprehension about debt levels, discontent about management bonus levels, frustration with dual-track processes and market volatility. While the examples below are based on recent developments in the UK market, they are globally applicable.
For further background on the current state of the European IPO market generally, see Article, Trends in IPOs: a fragile recovery (www.practicallaw.com/6-502-1240).
Most current private equity-backed IPO candidates were acquired between 2004 and 2007, at the height of the buyout boom and using vast amounts of leverage.
In many instances, the private equity owners subsequently added further layers of debt to the company's capital structure through refinancing. This has resulted in a plethora of heavily-indebted businesses, which are unlikely to appeal to institutional public market investors unless they restructure their debt before the flotation.
New Look's PIK notes. In addition to the need to reduce, repay or restructure this debt over the coming years, some forms of debt sitting on private equity-owned companies' balance sheets can be subject to onerous obligations. The Payment in Kind (PIK (www.practicallaw.com/5-382-3115)) notes of New Look, the British retailer, have been cited as an example of the type of debt instruments that are likely to hinder a company's IPO prospects.
New Look took on a GBP359 million (about EUR425 million) PIK loan in June 2006 which it used to pay a special dividend to its investors. Apax, one of the company's majority shareholders, and senior management reportedly bought back a proportion of the notes during the crisis at prices as low as 25% of face value, setting themselves up for further gains when the notes were redeemed. New Look's IPO announcement (www.practicallaw.com/1-501-5307) expressly refers to debt repayments as one of the reasons for the IPO. Because of the way that interest accumulates in PIK notes and is added to principal, commentators believed that up to GBP600 million (about EUR725 million) of the GBP650 (about EUR765) million that the cancelled flotation was expected to generate would have been used to redeem the PIK notes.
Management incentive arrangements have been another source of friction between private equity-backed IPO hopefuls and potential public market investors.
Travelport's bonus scheme. According to media reports, Travelport was forced to restructure its management incentive scheme before its, ultimately postponed, IPO. Under the company's original plan, management was reportedly due to receive the following:
Every US$1 (about EUR0.8) of the company's EBITDA between US$662 million (about EUR535 million) and US$696 million (about EUR563 million).
Every US$1 (about EUR0.8) of the company's EBITDA between US$708 million (about EUR572.5 million) and US$732 million (about EUR592 million).
Following the restructuring of the remuneration scheme, management was only to receive one-third of the company's EBITDA between US$708 million and US$732 million.
As evidenced by the recent buyout of Pets at Home by Kohlberg Kravis Roberts for a reported GBP955 million (about EUR1.13 billion), a dual-track exit can maximise returns for sellers by, for instance, allowing them to consider only those auction bids that match or exceed the top-end of their IPO price range or by encouraging auction bidders to make a pre-emptive offer early in the auction process. Trade sales or secondary buyouts can also offer sellers a price certainty and a clean break, as opposed to IPOs which are usually subject to a lock-up period and vulnerable to stock market volatility. On the other hand, some public market investors have recently complained about private equity sponsors using the IPO process as a means of attracting higher bids in the auction process, thus treating public market investors as something resembling stalking horse bidders (www.practicallaw.com/4-383-2224) in bankruptcy situations.
The impact of recent events such as the Greek debt crisis and the related fears of further shocks in other Eurozone economies have also been key timing factors in recent IPOs, and are likely to remain so for the foreseeable future.