Only a year ago the new economy was still a wholly American concept. There had been no more than a couple of internet IPOs in Europe, and these equities were languishing below their issue price. Germany’s Neuer Markt was the home of small traditional media companies, not internet start-ups. And the rest of Europe seemed to have few growth companies of any description.
Since then, Europe has seen a deal frenzy, with investors clamouring First for consumer internet stocks, then business-to-business stories and then technology providers. The market has gone through cautious optimism, heady euphoria, a frantic sell-off and back to caution. European retail investors have caught the day-trading bug and become a key part of many deals. And all the while, there have been phenomenal volumes of issuance from large established companies, supplying a continent-wide hunger for equity.
The sheer volume of issuance has made life difficult for issuers and investment bankers. So has the volatility which followed the sharp fall in technology share prices earlier this year. As a result there have been plenty of casualties. Deals have been cancelled, issue prices have been scaled back and some deals have performed abysmally in the after-market. According to Capital Data, there was $149 billion-worth of international equity issuance in 1999, with western European companies raising just under $82 billion in IPOs, secondary offerings, rights issues and other equity sales. For the First six months of 2000 the total was $116 billion, $68 billion of which was from western Europe. There were a total of 343 offerings by western European companies in the First six months of 2000, compared with 441 in the whole of 1999. East Asian issuance has been growing at a similar blistering pace, with 331 deals raising $36 billion in 1999 and 265 issues worth a total of $25 billion in the First half of 2000. But it is in Europe that the fever for equity raising has caught hold with most vigour. At one point early in 2000, the volume of equity issuance for the year in Europe was higher than the total for the domestic US market.
The internet bug hit Europe’s equity markets in the Final weeks of 1999. It had not been easy to sell mature businesses for much of last year, but in early 2000 investors shunned everything that was not connected to the internet. “At the beginning of the year you could hardly sell anything that wasn’t new economy,” recalls Edward Cumming-Bruce, global head of equity capital markets at Dresdner Kleinwort Benson.
The failure of online fashion retailer Boo.com in mid-May marked the end of investors’ infatuation with consumer internet companies. But the initial burst of internet euphoria lasted only until late March when support for inflated dot com valuations suddenly fell away. “The correction when it came was very clean and quick,” says Tom Ahearn, head of equity syndicate at Credit Suisse First Boston. “Within the space of only a week or so the market had adjusted to the new price levels.”
Euphoria breeds excess
Rarely before has the general public been so aware of the performance of IPOs as it was in the First half of 2000. And the retail-driven furore inevitably brought excesses. The two most notorious examples of mishandled IPOs both came in March. Two internet ventures, Lastminute and World Online, saw their share prices fall dramatically in the weeks after their Flotation. They attracted controversy for different reasons. World Online was undermined by its founder’s secretive attempt to sell stock, a transaction which underwriters Goldman Sachs and ABN Amro Rothschild had presumably failed to spot. In Lastminute, the mistake was one of pricing.”The new economy surge was something the market had never seen before,” says Michele Colocci, head of equity capital markets at JP Morgan in London. “Certainly, in all the frenzy mistakes were made – by investors, by issuers and by investment bankers. But the market has learnt a lot and has moved on to its next phase.”
The biggest problem may simply have been that companies were brought to the market too early in their life cycles. “You had new economy start-ups coming to market at phases of development that were unthinkable only a year ago,” says Colocci. “Now there are still companies and investors who want to play the private-equity game in the public markets but they are a dwindling number.”
Equity capital market bankers believe the poor performance of so many IPOs was simply a reflection of the number of transactions and their high-risk business models. “There has been a huge volume of deals,” says Charles Kirwan-Taylor, co-head of European equity capital markets at Credit Suisse First Boston. “The First half of 2000 has been a record six months with volumes equivalent to 80% of the issuance in the whole of 1999. The fact that so many companies were able to raise capital means that the market as a whole has been working efficiently.”
Inevitably, it is more difficult to price an IPO in an industry which is evolving rapidly. “If you exclude new economy stocks, which you would expect to be more volatile, the after-market performance of IPOs has remained very consistent,” says Kirwan-Taylor. “Traditionally, you would expect an IPO to trade up by between 10% and 15%. On average, that is still happening if you take out the riskier stocks.”
High profile, growth-industry IPOs were the deals all equity underwriters wanted to lead this year. But although their volume increased dramatically between 1999 and 2000, Flotations still do not account for the majority of equity issuance. In the First half of 2000, IPOs represented just under 39% of all equity issuance, up from 33% in 1999 as a whole.
Other types of offering continue to make up the bulk of the market. Secondary deals and rights issues are the most important of these. But there have also been a substantial amount of block trades – although these deals now tend to be termed “accelerated bookbuilding” since block trades are now excluded from the Figures on primary equity issuance.
By far the biggest source of secondary offerings has been large telecom companies. The German government’s third sale of Deutsche Telekom equity was the biggest single equity sale of the year so far. The e15 billion offering was completed in June by a syndicate led by Deutsche Bank, Dresdner Kleinwort Benson and Goldman Sachs.
“There was and continues to be a huge pipeline of large-cap telecom stock,” says Colocci at JP Morgan. “These companies, that not long ago were seen as relatively sleepy monopoly telcos, are raising staggering amounts of equity and completely dominate the European equity scene. There is something in excess of $50 billion of telco paper due in the last quarter of 2000. And that is really going to test the market.”
Not only are these big telecom companies expanding aggressively through acquisitions and joint ventures. They also need to raise large volumes of cash to pay for UMTS licences, especially those in the UK and Germany where prices vastly exceeded expectations.
Already, the round of mobile licences has been driving big equity deals. Some companies, such as Vivendi, have sold equity in preparation for participating in the auctions. But most of the equity offerings needed to pay for both the licences and the development of UMTS networks will be taking place in coming months. This is creating a daunting pipeline of equity issuance for the second half of 2000.
Mergers and acquisitions have been driving equity issuance volumes in other ways too. Sales of non-core businesses and the unwinding of equity cross-shareholdings have caused a surge of ever larger convertible and exchangeable offerings. “Exchangeable deals of $1 billion and upward have become frequent now,” says Colocci at JP Morgan. “And in our view the volume can only rise as companies unwind their cross-participations.”
Retail rises
These convertible deals rarely attract as much attention as technology IPOs, partly because they typically involve companies in less fashionable industries and partly because they tend to be targeted towards institutional investors.
Although the amount of institutional money going into equity has increased substantially since the introduction of the euro, the growth of a large European retail investor base has been one of the market’s most notable recent trends. Some bankers dispute that any significant number of deals are being priced by retail buyers. But it is clear that without widespread retail support the big telecom offerings set for later this year won’t succeed.
“One of the themes at the moment in Europe is the increasing importance of retail investors,” says Cumming-Bruce at Dresdner Kleinwort Benson. “Clearly there is a very large and growing underlying appetite for equity. And one of the characteristics which distinguishes European retail from US retail is that it tends to be buy-and-hold.”
Others doubt that European retail buyers will prove to be any less Fickle than their US counterparts. “No issuer really wants to have retail in their stock,” admits one banker. But there is little doubt that individual investors now make up a large enough proportion of the market to be taken seriously. The Deutsche Telekom share sale in June was notable for being targeted largely towards retail buyers.
Although the growing importance of retail investors might be expected to favour underwriters with a strong retail presence, the league table of leading equity arrangers continues to be dominated by Firms with a strong investment banking franchise. Technology specialists, in particular, have been much in demand in the past year.
“When Frank Quattrone’s team moved to CSFB everyone scratched their heads and wondered what you would do with 100 technology investment bankers,” recalls one equity capital markets banker. “Within 12 months everyone had Figured out exactly what they would do with 100 technology investment bankers.”
Although it was Deutsche Bank which lost Quattrone in the US, the bank has been doing rather well this year in the European equity league tables, somewhat to the surprise of its peers. Deutsche is seen as specializing mainly in selling German equities to German investors. But it has led a range of deals this year, not all of which can be so easily dismissed.
One European bank which has performed less well recently is UBS Warburg. In 1998, it was the leading bookrunner of international equity issues, but fell to Fifth place in 1999 and could only manage ninth place in the First half of 2000. Morgan Stanley and Goldman Sachs, meanwhile, have increased their market share, between them leading around 30% of all international equity issues in the First six months of this year.
Both US Firms benefit from having a well regarded corporate Finance business. The other member of the US bulge-bracket trinity, Merrill Lynch, has pursued a similar strategy, but has failed to catch up with Goldman Sachs and Morgan Stanley, perhaps paying the price for been less strong in technology investment banking.
Bankers at other Firms concede that the market is much more concentrated than it was only a couple of years ago. “Both Goldman and Morgan Stanley got their timing just right in building up before the boom began,” says a rival. But competitors insist that the race is not over yet.
Some express surprise that Goldman Sachs and Morgan Stanley have managed to increase their market share even as volumes have grown so quickly. Issuers, they note, must at some stage begin to worry that these Firms have conflicts of interest. If volumes continue to grow, other Firms may succeed in persuading companies to share the work around a little more.
And there is little sign of the pace of equity issuance slowing down. “The trend of ever increasing size that we have seen almost every year for the past Five years does not appear to be about to stop,” says Kirwan-Taylor. “There is a huge calendar for the end of 2000 and the beginning of 2001.”
Morgan Stanley’s last minute fumble
The European internet gold rush of the First months of 2000 produced more than its fair share of mishandled and badly performing IPOs. The two that stand out went wrong for different reasons.
The worst that Goldman Sachs and ABN Amro Rothschild can be accused of following the disastrous World Online Flotation in March was a lack of thoroughness – perhaps understandable given the volume of deals being done at that time. World Online founder Nina Brink was later forced to admit that she had in effect sold shares in the company at the time of the IPO even though this was not disclosed to investors. She later left the company.
What went wrong on the IPO for Lastminute had nothing to do with the company’s managers. In hindsight it was just disastrously mis-priced – an error which has to blamed squarely on the company’s investment bankers at Morgan Stanley.
No internet start-up better captured the spirit of those heady days than this UK online booking company. The website was one of the First to Fire the imagination of the population at large and Lastminute’s two young founders quickly become media stars. The company Floated just as demand for European consumer internet stocks was at its most feverish – and just days before investors began to wake up to reality.
The IPO was announced at the beginning of March with a price range of between £1.90 and £2.30. Perhaps emboldened by the booking company’s advertising, which exhorts potential customers to “do something last minute”, sole bookrunner Morgan Stanley bumped up the price just three days before the March 13 pricing date. The new range was between £3.20 and £3.80 and the stock was priced at the highest point in that range.
With the offering more than 40 times oversubscribed and an initial bounce in the share price, the lead manager could claim the deal had been a success. But as if to illustrated how little over-subscription multiples matter to after-market performance these days, the stock slumped below its issue price within a week. After a month had elapsed the share price had fallen below £2, where it has languished ever since.
Of course, Lastminute and Morgan Stanley were victims of timing. In the US, sentiment had turned against consumer stocks some time before the company’s IPO. Lastminute was simply one of the most high-profile victims of the general correction in new economy share prices.
And can the lead manager really be blamed for responding to investor demand? “We would argue that we just supply investors with what they want,” argues an equity capital markets banker who was not involved in the deal. “If investors give us strong signals that they want the stuff at any price then we’re obliged to provide it.”
On the plus side, the company managed to keep the retail allocation on the deal manageably low, despite vitriolic chat-room complaints about the small size of the retail portion. As a result, Lastminute has gained a bedrock of institutional shareholders who may be less inclined to dump the stock at the slightest hint of bad news.
And of course, the company sold its equity at an excellent price, raising £113.5 million through the offering. That has given Lastminute longer to turn round its loss-making operation than some of its less cash-rich peers. In the end, investors may be thankful for that.
