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Breaking down the IPO class for 2020

The 2020 IPO class has been impacted by the coronvirus, resulting in some companies becoming under-performers and others becoming out-performers. RapidRatings CEO James Gellert joins The Final Round panel to discuss 2020’s IPO class.

Video Transcript

SEANA SMITH: Well, I want to talk about how this massive sell-off that we saw today could potentially impact the IPO market because we've had big names like Vroom, like Warner Music Group, also like Zoom Info among the standouts in recent weeks, as it seems that we did see this jump in the number of public debuts. So we have James Gellert, RapidRatings CEO, on for more about this. And James, when you take a look at the market's reaction today, a day when we had the Dow off over 1,800 points, S&P and NASDAQ closing off over 5%, what does that do to the IPO market? And could it bring-- this conversation, ahead of today, was going to bring-- was going to be about this potential bounce-back that we're seeing. But could it bring that to a potential halt?

JAMES GELLERT: Well, about eight hours ago, I would have answered the question on how the IPO market is doing by saying the biggest risk is the downside and the volatility in the market and the risk of a giant correction, and/or people just kind of pulling off the exuberance of this rally. That's already happened. I think the-- if you look at the names that have been coming, they are names that look really similar to the 2019 class, with a couple of exceptions like a Warner Media that is profitable, has a high financial health rating relative to the others.

But the rest of them-- the Vrooms, the Zoom Infos, and so forth-- you know, these are companies that aren't profitable, and the market really didn't like that about 3/4 of the way through last year. And there was a bit of a vow to wait-- to push for profitability, or at least more mature companies, IPO-ing. And here we are back in it again, and I would say that this correction is going to give a lot of pause to a lot of the people who have been, I would say, speculating, not investing, in the IPO space.

SEANA SMITH: Well, James, which-- I guess which sectors do you expect to lead the way then? If there's still so much uncertainty out there, some of these companies have been mulling about whether or not they want to go public. They may put their plans on the sidelines for now. But the ones that do decide to go ahead, that do decide to take the risk at this point, what do you think some of those-- or what sectors do you think they will likely come from?

JAMES GELLERT: Well, think the sectors that make most sense are the ones that are most insulated from the coronavirus and particularly a second wave of coronavirus or in some areas that weren't as hard hit, a first wave-- so technology, biopharm, ones that are, in some respects, positively influenced or not negatively influenced. Anything that's travel related, anything that's having a direct-- that's being directly affected by coronavirus really needs to stay on the sidelines.

But to me, it's more a question of, do companies that are coming-- regardless of what industry they're in, do they have the characteristics of a company that can demonstrate to the market a growth to-- or a path to profitability? And with our financial health ratings on a zero to 100 scale, many of these companies that came last year and are coming now are rated in and around the 30s. That's a really-- that's a high-risk zone. And to me, the real question is, can a company come that is a higher-rated business and/or one that comes that-- one that comes at a lower rating, can they demonstrate to the market and articulate to the market that they actually have a path to generate profits anytime in the near term? And most of the companies haven't been able to do that.

MYLES UDLAND: James, I have question maybe just more, like, conceptual about what a business uses IPOs for anymore. Because it seems that they're only, you know, pure kind of cash-outs. They're liquidity offense, right? We don't see young companies-- there are exceptions, obviously, but youngish companies-- coming to market to raise capital with a great business idea. These are brand names that have a lot of investors that need to get paid.

And now we kind of see this rise of SPACs, you know? Bill Ackman today has reported he wants to do what Jeff Ubben did with Nikola, right? And all these guys want to copy each other. Does that IPO world, where a 3-year-old Amazon hits the market and just tries to raise capital, is that-- have we moved away from that on a permanent basis? Where do you see that standing?

JAMES GELLERT: Well, we've certainly moved away from it for-- you know, for the foreseeable future. And look, as long as the market is allowing companies like Zoom Info and Vroom to come to IPO and then trade up 50% to 100% in a day, you can question whether it was priced correctly to begin with or not. But the fact is, the market supported those levels and traded it very aggressively. So there isn't-- the market isn't conditioning any different behavior than the behavior that we've seen.

What I do think we will see more of going forward, if the market settles and we can still have IPO-ing businesses, we're more likely than not to see more companies come and repay debt with proceeds of an IPO, and Azek is one that's in the market. And the use of proceeds is quite specifically to repay debt. The weaker the company, the harder the time they're going to have refinancing debt through the fixed-income capital markets and the more likely they are to have to look for either an acquisition or a merger or some corporate event or to do a very dilutive refinancing, which would be to issue equity in the IPO market to repay debt, not what most companies want to do. But I think we're going to see a bit more of that.

RICK NEWMAN: Hey, James, Rick Newman here. Let's say you're a company that had been planning to go public in one of these-- in one of the danger zones-- travel or retail or something like that-- and you have to stay on the sidelines for-- I mean, it could be a year, two years, or longer. Is there still enough private funding to keep those companies going, or are they facing, you know, an existential threat?

JAMES GELLERT: Well, there are two aspects to private funding. There's the private credit markets, and then there's private equity. Some private credit is owned by private equity firms. But if you look at those two things differently, the non-bank, the private credit market has about $1 trillion outstanding this year in dry powder and invested capital. We've never seen a downturn in the market with a private credit market of that size. You can go back to the global financial crisis. We didn't have a private credit market like that. So how that market reacts to the pandemic and the downturn that is definitely here and going to be here, I think, for a couple of years really remains to be seen.

On the flip side, private equity is well cashed up. Private equity firms have been raising capital really successfully for a number of years. There's a lot of dry powder there. So I think we're going to see a boom in private equity, particularly in the smaller business in the growth stage segment of the market where companies just won't have the larger capital markets as a route for them for refinancing or for new proceeds.

SEANA SMITH: Hey, James, what about the virtual IPO roadshows where you pitch to investors-- I mean, obviously, it has been done virtually now over the last couple of months. Having seen that it works at-- it's actually following through, there was a lot of skeptics about whether or not it would work and would be something that could come into practice going forward, do you think it now could become a thing in the post-crisis world?

JAMES GELLERT: I think it-- I think it's less about the mode of communication in a roadshow than it is what's said. And you know, again, articulating a vision and articulating a path to profitability is significantly more important than whether you're in person or virtual. So I-- companies are able to capitalize on the virtual meeting dynamic that we have. But ultimately, they have to be able to tell a story. And if they can't tell a story, they're going to be in big trouble.

Now, today, the story is not just about the individual company and what its plans are. It's about how they're going to be able to grow and survive in this crisis. And I would say that volatility in the market, as we see from stress testing tens of thousands of companies' ratings, we see such a dramatic increase in high-risk companies and such a reduction in low-risk companies, post-stress test, that anyone on a road show, whether they're doing it via computer or doing it in a hotel ballroom, they need to be asking the questions, how is a company going to actually address the problems that come to their business because of the crisis, as well as the own internal ones of just growing the business in a fundamental way? That needs to be addressed irrespective of how they're doing it.

SEANA SMITH: All right, James Gellert, the CEO of RapidRatings, thanks so much for joining us today.

JAMES GELLERT: Thanks for having me.