Out-Law Analysis | 09 May 2017 | 2:30 pm | 5 min. read
While this might seem to fly in the face of the conventional wisdom that political uncertainty discourages major corporate activity, the floats of Verditek on AIM and Global Ports Holding and ADES International on the main market are an encouraging sign that the UK markets remain relatively buoyant – as well as a vote of confidence in London following the UK's decision to leave the EU.
A successful initial public offering (IPO) offers one of the most attractive exit mechanisms for private equity investors given the substantial potential returns: indeed, the total value raised by private equity investors and management as selling shareholders in 2016 IPOs for £1.3 billion, according to figures compiled by Pinsent Masons, the law firm behind Out-Law.com (registration required). However, a factor to take into account in comparing an exit by way of sale to a flotation is that timing is not necessarily within the company's control as different regulatory requirements and market movements play a part too.
Against this backdrop – and given the timing of May's announcement, during what is an ideal time for the IPO process - it is particularly encouraging to note a number of successful private equity IPOs that have already taken place this year. Investors CBPE have floated two companies on the main market since the start of the year: corporate pensions consultancy Xafinity in February and Medica, the teleradiology provider, in March; while Ramsdens, the pawnbrokers, backed by North Edge Capital, floated on AIM in February.
Even more encouraging is the fact that CBPE managed to fully exit its investment in Xafinity, citing high investor demand, generating a return of 4.3x invested capital. That is relatively unusual. When we studied private equity-backed IPO trends in 2013-2015 we found that only seven of the 77 private equity-backed IPOs involved a full exit. Of the 16 private equity backed IPOs tracked by Pinsent Masons in 2016, none resulted in full exits for the private equity shareholders.
2016 compared with previous years
In 2016, there were 60 IPOs on the London Stock Exchange: 27 on the main market and 33 on AIM. The market capitalisation of the main market IPOs ranged from £4.6 million to £1.5 billion, and on AIM from £1m to £131m.
This shows that there were fewer IPOs in 2016 than in recent years – just under half as many as in 2014, the most active year covered by our previous study of IPOs between 2013 and 2015 – and that market capitalisations at point of listing are lower this year. Broadly, this means that smaller companies are coming to the public markets.
Of these IPOs, our study identified eight main market IPOs and eight AIM IPOs as being private equity backed. Although this is a smaller sample size than the previous study, this shows a move away from a main market bias for private equity backed flotations: 74% of private equity IPOs between 2013 and 2015 were on the main market.
This may be symptomatic of a year in which some of the largest main market IPOs were pulled, or came in at the bottom end of their price range. However, the largest London IPO of 2016 was private equity backed ConvaTec, which listed on the main market with a market capitalisation of £1.5bn. ConvaTec has now become a FTSE100 company.
Of the private equity IPOs, three were in the financial sector and three in the technology sector, with the remaining IPOs dispersed across various other sectors. Interestingly, the largest private equity IPO of 2016 (ConvaTec, £1.5bn) and the smallest (MaxCyte, £30m) were in the healthcare sector – which demonstrates that an IPO can be a good exit route across the value range.
How good is it as an exit?
Some cases in our study demonstrate the ability of private equity shareholders to enhance their exit proceeds by market sell-down following the expiry of their IPO lock-up period - and at a premium to the IPO share price.
The usual structure deployed by private equity backers to sell-down large percentages of their shareholding post-IPO is the 'accelerated bookbuild' (ABB). This mechanism allows a large shareholder to sell-down a significant amount of shares in a single day by placing them directly with institutional investors through an investment bank acting as placing agent.
Where a shareholder retains a significant stake following completion of an accelerated bookbuild, it is usual to enter into a further lock-up period from that date. Around 60% of the IPOs in our study had lock-up periods of six months from listing for private equity shareholders, down from 82% in the previous study, preventing from the private equity shareholders from selling any more shares until that period had passed.
It is normal for major shareholders to also give an 'orderly market' undertaking for a period following the expiry of their lock-up, which requires the shareholder to sell shares only through the company's retained broker so as to smooth out large disposals and prevent a substantial drop-off in share price. Our study found that private equity shareholders gave these undertakings in only half of the private equity IPOs of 2016, split between six months (19%) and 12 months (31%). This represents a small swing toward orderly market restrictions of 12 months for private equity when compared with the results of our previous study.
ABBs were used in respect of nine companies which listed in 2015. Of the seven 2016 private equity backed IPOs which came out of their lock-up periods before the end of the 2016 calendar year, there was one in which two ABBs were used to sell-down shares, with Apax Europe selling down 68% of its stake in Ascential.
Of the 10 2015 and 2016 IPOs which used ABBs, four used two ABBs within the same year to sell-down all or a significant portion of their shareholdings. In one case the private equity backer sold its whole stake in a single tranche using this method.
In all but two of the ABBs covered in our research - and in the ConvaTec ABB and sell-down effected in March 2017, within the lock-up period and with the consent of the bookrunners - the private equity shareholder sold its shares at a premium to the IPO share price, showing that a partial exit by flotation in 2015 and 2016 usually led to increased returns on future sell-downs. In respect of all but four companies, a dividend was also declared before the latest ABB was effected. This trend has continued since the publication of our study as investors in three of the companies tracked by our research, Hollywood Bowl (2016), Forterra (2016) and Ibstock (2015), fully exited in April 2017, and at prices higher than the IPO price in all but Hollywood Bowl. Electra made a complete exit of its holding at 152.5p against a listing price of 160p - but, given it owned 89% of the company less than a year ago this still illustrates a pretty swift and effective sell-down of a very large stake.
These cases all demonstrate the ability of private equity shareholders to enhance their exit proceeds by market sell-down following the expiry of their IPO lock-up period.
Jonathan Beastall is a corporate law expert at Pinsent Masons, the law firm behind Out-Law.com.