Sunday, December 4, 2011

IPO Stall Pushes M&A Dealmaking

The market for initial public offerings (IPO) has a 'closed' sign hanging over it and private equity investors will use mergers, private equity buyouts, spinoffs and a lot of waiting as a replacement for selling public shares.

Bankers are keeping their powder dry as they wait for the market to stabilize as it has been battered by large swings from the European debt crisis. "A lot of bankers would tell you that because of the froth of the summer, there are a lot of IPO's sitting in the pipeline," said James Woolery, co-head of J.P. Morgan's(JPM) North American mergers and acquisitions division at the Dow Jones Private Equity Analyst Conference in the Waldorf Astoria Hotel on Wednesday.

Jeff Bunzel head of equity capital markets at Credit Suisse(CS) agreed adding, "There hasn't been an I.P.O. in one and a half months... we will need two-to-three weeks of market stability and then we'll see some transactions happen."

Charles J. Ditkoff, vice chairman of Bank of America Merrill Lynch's(BAC) global healthcare group said that virtually no public offerings happen when the VIX volatility index is above 30. The VIX is currently at tracking above 40.

According to data compiled by Bloomberg, announced I.P.O.'s are up 90% and total 614 in the past twelve months; however almost of a quarter of withdrawn public offerings in that period were done since August.

There are only 2 up-coming IPO.'s in the next year. It's making private equity investors responsible for some of the biggest offerings like HCA(TD), Kinder Morgan(KMI), Arcos Dorados(ARCO) and Freescale Semiconductor(FSL) and company owners look to M&A as an alternative way! to cash out. "As the [I.P.O.] market continues to be shut, a lot of these companies will start turning to private equity or they will start turning to mergers and acquisitions," said Ditkoff of Bank of America Merrill Lynch. Merger activity will be a function of corporate cash and a slow growth environment in the U.S., said all participants of the panel.

Currently Avaya, a TPG Capital owned company taken private for $8.2 billion in 2007 is one of the largest pending IPO's at $1 billion along with Zynga, another TPG investment.

The other issue bankers are dealing with is price. As stocks get cheaper, private equity investors and company founders aren't inclined to sell into a falling market. "We did two big healthcare IPO's, HCA and Vanguard Health Systems(VHS). What we need for those kinds of IPOs is for the market to be at its historical mean," said Ditkoff of Bank of America Merrill Lynch.

While these companies may sit in the IPO waiting room for a while, "the taint" of filing a registration and waiting for an extended period is gone, said Credit Suisse's Bunzel. He added that he is advising companies considering an I.P.O. to continue to submit a shelf registration because when markets re-open, it's important to be first to market.

"I do think M&A will be part of the story because there are just too many deals in the queue," said Woolery of J.P. Morgan. But there is a hitch Woolery added, "In August, that activity came totally to a halt, there are not a ton of deals [like Goodrich] in the pipeline... It's very hard to do M&A deals when the market is going up and down three-to-four percent."

United Technologies(UTC) bought Goodrich(GR) earlier in September for $16.4 billion. According to preliminary third quarter Dealogic data released on Monday, global mergers and acquisitions ! for the third quarter that began in July and will end with September has fallen 23% from a year ago after posting gains of 22% and 23% in the first and second quarters.

For a stalling IPO and merger market, activity may also come if companies continue to spin themselves into smaller more specialized business models. "I think the opportunity is going to be in de-merger activity," said Woolery. Recently, Tyco(TYC), Kraft Foods(KFT), Sara Lee(SLE) and Sunoco(SUN) have all announced plans to shrink. This trend will eventually create deal activity because "the higher value [de-mergers] will go to I.P.O. markets, while others will go to M&A markets," said Ditkoff of Bank of America.

The outstanding problem is falling company values are not incentivizing activity. Sellers still expect to be bought at a price reflective of a normal market and not at a premium to the last market price; meanwhile, buyers may increasingly expect steals. "I don't feel my clients are under any pressure to exit," said Ditkoff.

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