It’s shark week on the Discovery Channel, but it's also shark week on Wall Street.
In fact, the sharks have been feeding there for much of the year, as buyout artists take advantage of buoyant stock indexes and pliant credit markets to execute initial public offerings and sell fresh debt, locking in cash profits on companies bought before and during the financial crisis.
The overall IPO market has revived nicely in 2013, a sign of healthier investor risk appetites and rebounding stock valuations attractive to private-company owners. So far this year, 117 initial offerings have hit the market, a 33% increase from the same period in 2012. The number of IPO filings is up 52% from 2012, according to Renaissance Capital, a brokerage and research firm that specializes in IPOs.
Just today biology startup Intrexon (XON) is soaring more than 50% on its debut, joining other recent issues, such as Noodles & Company (NDLS) and Sprouts Farmers Markets (SFM) that have seen big first-day pops.
But a disproportionate number of these deals – especially among the larger offerings – have been returns to the public market by companies taken private by buyout shops in recent years. Blackstone Group LP (BX) debuted Sea World Entertainment Inc. (SEAS) and Pinnacle Foods Inc. (PF). Personal-care-product maker Coty Inc. (COTY) and drug-research services provider Quintiles Transnational Holdings Inc. (Q) were also private-equity-backed offerings from the first half of the year.
[See related: SeaWorld Dives Into Wall Street's Public Pool]
Perhaps the most anticipated “reverse LBO” offering of the next year will be Hilton Hotels, subject of the largest leveraged buyout of the pre-crisis deal boom, which this week named underwriters for its stock sale.
An essential role
Of course, sharks aren’t evil; they are impelled by a specific and effective natural predatory makeup, and they fill an essential role in keeping the ecosystem in balance. The private-equity firms are, to a large degree, collecting their rewards for stepping in at times when the public markets were hostile or capital scarce.
So the cashing-out process is all part of the cycle – which is not the same as saying the stocks are all worth owning for long-term public investors. While the average IPO this year has gained 30% from its offering price, according to Renaissance, the above-cited private-equity-sponsored stocks have either trailed the Standard & Poor’s 500 since their trading debut or have performed in line with the broad market.
Taylor-Morrison Home Inc. (TMHC) received a warm welcome early this year, as investors eager to bet on the housing recovery generated enough demand for the company in February to double the size of its IPO and increase it by another 20% upon pricing the deal at $22 per share April 9.
[See related: Pricey Fairway IPO Leads Pickup in Consumer Offerings]
Yet the stock arrived just as homebuilding stocks peaked, having surged over the prior two years, as home starts decelerated and the specter of higher interest rates emerged. The stock recently sank below its offering price and has underperformed the S&P 500 by nearly 20 percentage points.
This experience should give pause to do-it-yourself investors who are awaiting tonight’s pricing of Stock Building Supply Holdings (ticker will be STCK). The company is a Raleigh, N.C.-based supplier of building materials to the home-construction industry that was acquired — for a relative pittance — out of bankruptcy in 2009 by PE specialist The Gores Group.
Stock Building Supply obviously operates in a hot area of the economy, and is being brought public by a top lead underwriter in Goldman Sachs Group (GS). Yet the company continues to post losses, and even an “adjusted” cash flow measure detailed in its prospectus remained negative in recent quarters. This, it appears, is a deal set to demonstrate that most PE-backed IPOs are opportunistically sold rather than eagerly bought.
Smart money bailing?
Some bearishly inclined investors have pointed to the rush of private-equity firms to offload portfolio companies in IPOs as a sign that the smart money is bailing and the broad stock market frothy.
This idea gained a bit more traction last spring when veteran buyout artist Leon Black of Apollo Group told a conference audience: “It's almost biblical. There is a time to reap and there's a time to sow. We are harvesting We're selling everything that's not nailed down. And if we're not selling, we're refinancing."
Yet the IPO revival remains too nascent, and the reception to most deals still a bit too sober, to send a clear signal of overheated, market-topping action. Sure, the run to new highs and fresh cash inflows into equities have made it a bit more of a fully valued, seller’s market. Yet the spate of deals in part reflects the maturation of private-equity portfolios put together in the middle of the past decade, and a re-opening of the IPO window after the botched, investor-scarring Facebook Inc. (FB) IPO in May 2012.
Perhaps the best sentiment tell from the IPO market will come when Twitter eventually goes public – something reported to be inching closer to reality based on its search for certain financial executives. If Twitter, say, doubled in price from its IPO level in the mode of the 1999 tech-bubble climax, it might be worth worrying more about overexcited speculation in the market.
Indeed, the excesses are more easily seen in the last part of Leon Black’s comment – the ongoing debt-finance splurge. As the Wall Street Journal detailed this week, $47 billion in new loans and bonds have been floated this year solely in order to pay dividends to their buyout-firm owners.
That’s ahead of the pace from this point last year, which turned out to be the biggest year ever for such activity. (These dividends, of course, are in addition to whatever profit PE firms realize from the resale of the companies’ equity, and the management fees they collect from the company – for their trouble in overseeing the business they have acquired.)
Meantime, corporate-finance data tracker Dealogic last week noted that loan volume for financial-sponsor-backed issuers for refinancing purposes – basically, buyout firms – hit $236 billion, the highest tally on record by this point in a year.
Here you have a good read on how risky borrowers and clever financiers have taken advantage of the easy-money policies central banks have applied to a slow-growth, debt-burdened world economy.
We all knew that sharks need liquidity to live, right?