2010 and IPO’s
Still, the track record so far this year suggests lower, not higher, valuations than issuers had hoped for. Based on gross proceeds, 9 of the 13 IPOs seen in 2010 were smaller than were originally proposed, with the average IPO raising 14% less than expected, says Therian.

The IPO pipeline seems to be swelling in volume, if not strength. Eighty companies have filed for offerings worth a total of $13.65 billion in the last six months, according to data research firm Dealogic. Undeterred by tough market conditions, six new companies filed to go public on Feb. 18, the highest number filed in a single day since July 2007, say analysts at Renaissance Capital. A total of 28 companies have submitted IPO filings since the start of 2010, vs. four that filed in the entire first quarter of 2009. On the other hand, 5 of the 11 companies scheduled to go public earlier in February postponed their offerings and the remaining 6 all cut their deal sizes — by more than 30% on average — according to Renaissance, which said that only 3 logged positive returns on their first day of trading,. Graham Packaging (GRM), in its Feb. 10 offering of shares at $10 each, raised roughly $160.7 million, less than half of the $350 million target that its private equity majority owner, Blackstone Group (BX) had said it hoped to raise in a November 2009 filing with the U.S. Securities & Exchange Commission. Blackstone had intended to sell more than 11% of its interest in the company but didn’t sell any shares.

The fact that Blackstone’s stock took a hit after the company cut both the number of shares and the price of the Graham offering “shows the market is not at a strength yet to handle either a mature volume of IPOs [or] potentially to support the valuation of the would-be issuers,” says Ron Geffner, a senior partner at Sadis & Goldberg, a New York law firm that represents over 500 clients, including domestic and offshore hedge funds and private equity and venture capital funds.

Hunger for Big-trend tech issues
High unemployment and persistent worries about the stock market among the broader population are likely to prevent most IPO issuers from being able to maximize their valuations and achieve their goals by going public in the next six months, adds Geffner. He believes that policy initiatives in Washington will probably play a big part in determining the kind of IPOs that long-term investors are willing to buy. He expects to see increased demand for health-care and diagnostic-equipment companies as well as companies able to benefit from the construction of the first new nuclear power plants in the U.S. in 34 years. Benchmark’s Gurley agrees that the buy side is mostly interested in big trends such as smartphones, open-source software, and social networking.

“If Facebook were to go public tomorrow, there would be a lot of interest,” he says. While Graham’s disappointing offering shows how weak the public appetite currently is for new companies, the company’s debut counts as a success compared with another Blackstone-sponsored deal, Travelport, whose estimated $1.78 billion London IPO was postponed on Feb. 10. The recent postponement of multiple deals signals an inflection point in the market and will require issuers to carefully adjust valuations of pending deals downward by 25% to 40% in order to get them done, says Menlow at IPO Financial Network. That will pose a problem for most IPO candidates, whose business plans are contingent on their being able to raise a certain amount in net proceeds from the public listing. Paying down debt — often a linchpin in those plans — won’t be feasible if subsequent offerings get priced at less than half the value initially projected.

postponements are sketchily explained
“There are restrictive covenants out there for these companies, set forth in loan agreements that say: ‘You can’t go public until your loans with us are paid off,'” says Menlow. Take an issuing company that planned to raise $100 million through an IPO and is now being told it will get only $70 million. If it “has $80 million in debt, and was going to use $20 million for capital expenditures and product development, now they don’t have that money.” Issuers aren’t telling investors the real reason the deals are being postponed, says Menlow. Concerns about inability to repay debt may have prompted FriendFinder Networks to pull its IPO for an estimated $220 million on Feb. 5. The online adult social networking site, which operates the Penthouse Web site, had $199.7 million in first-lien senior secured debt and $80 million in second-lien subordinated debt as of Sept. 30, 2009, plus at least $80 million in further debt. In a Feb. 4 SEC filing, FriendFinder said it planned to use its IPO proceeds “in accordance with our amended note agreements” to repay $179.6 million of first-lien notes at premium redemption prices and an additional $2.7 million in waiver fees to holders of the first- and second-lien notes.

No one at RenCap Securities or Ledgemont Capital Group, the lead managers of FriendFinder’s IPO, immediately returned calls for comment on the decision to postpone the offering. For Paul Bard, director of research at Renaissance Capital, IPO cancellations are being driven more by private equity holders’ unwillingness to discount their stock than by concerns about inability to pay down debt.

debt-free, staged issues?
“They can always raise enough to pay down debt, but they would have to cut the equity price,” he says. “If the market is unwilling to attach a value that appeases private equity holders, they’re electing not to move forward with these deals.” Ideally, there’s nothing to stop companies without significant debt from going forward with IPO plans, says Menlow. They could afford to sell a token number of shares at a lower price — and if the business is as good as they think it is, their stock price would appreciate over time, setting the stage for a more lucrative secondary offering, he says. Although there seems to be a lot of pent-up demand for IPOs among institutional investors seeking big growth plays for their portfolios, would-be investors may be catching a whiff of desperation among private equity sponsors eager to cash out and start delivering on promises to the investors in their funds. The economic climate makes it hard for private equity owners to use IPOs to execute exit strategies right now, says Menlow.

The only way the market will embrace a private equity-sponsored offering that isn’t a household name is if the firm retains its position at the IPO — “rather than becoming a majority seller, which has classically been the case,” he says. Investors are right to ask “if it’s such a wonderful offering that you’re going to make it a public offering, then why are you getting out?” he adds.
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