IPO show-stopper

Imagine you’ve spent the last three years waiting in line to buy a ticket for your favourite show. But when you get to the front, your anticipation at its height, you discover that the show just got cancelled. It’s been a bit like that for private equity firms looking to tap the public markets lately.

In the first half of 2011, the IPO market seemed to be bouncing back after three tough years – and private equity-backed offerings were leading the charge, accounting for 69 percent of the US’s $32.2 billion IPO market in the year to 27 July, according to Dealogic.

“There was clearly pent-up demand,” says Tony Klaich, a private equity partner in Crowe’s Risk Consulting Group. As one general partner colourfully put it, private equity firms were like “hardcore fans” at a rock concert, ready to rush the stage as soon as the gates opened.

Early-year offerings set the tone. HCA Holdings, backed by Kohlberg Kravis Roberts, Bain Capital, Bank of America’s private equity unit and the founding Frist family, raised $3.79 billion when it priced at $30 per share in March, setting the record for the largest private equity-backed IPO on record. Kinder Morgan and Nielsen Holdings, both private equity backed, also held breakout offerings, raising $2.3 billion and $1.6 billion respectively.

But that all changed following Standard & Poor’s downgrade of US Treasury Bonds on 6 August, which sent the market into frenzy. The S&P 500 Volatility Index, an indicator of investor appetite for IPOs, jumped to over 47 on 9 August; in a healthy market, it rarely goes above 15. According to PricewaterhouseCoopers, half of the 12 IPOs scheduled to price in the second week of August were postponed due to market uncertainty.

“The downturn has affected all new issue activity in the equity market. Any issuers that were on the road are contemplating downsizing, reducing valuation and/or pulling offers altogether,” says Warburg Pincus managing partner Chris Turner.

All this turbulence has also taken its toll on some of the offerings that got away earlier this year. HCA, for example, was almost 30 percent down on its opening price when PEI went to press (see chart). On the other hand, this was a lot to do with a weak second quarter earnings report; others have fared much better.

“I see it as a bit of a bifurcated market,” says Jamie Ebersole, senior investment director at SL Capital Partners. “You have the companies that are really taking off, primarily technology names [such as LinkedIn], and other good, solid businesses [like Dunkin Donuts] that are coming out and striking a chord with the institutional investors. Then you have some other names which are using the IPO market as an interim funding mechanism and a balance sheet restructuring tool, providing management with an opportunity to create value on a longer time frame with a more flexible capital structure. In general, we have not seen a whole heck of a lot of money come back to us from IPOs.”

The turbulence may not last. ‘The IPO market typically bounces back,” says Ernst & Young private equity partner Jeff Bunder. “It’ll probably be a story that will unfold in the fall, as to whether demand is there or not for new issues.”
But for now, IPO exits are a tough ask. “The market is effectively shut down for awhile,” TA Associates managing director Ajit Nedungadi says. “Nothing’s going to happen for at least another month, maybe two, maybe three. It’s going to be pretty ugly out there.” Probably worth getting back into that line for the time being.