A mix of “distressed”, “insurance” and “opportunistic” transactions are driving a busy period for equity capital markets. Marie Kemplay reports.  

NYSE

After a lull in March, the equity capital markets (ECM) have been cranking up. During the first six months of 2020, $447.2bn was raised via global ECM, a five-year high, according to Refinitiv. ECM is often synonymous with  initial public offerings (IPOs), however in this period it is $295.6bn worth of secondary offerings from capital-hungry issuers which has accounted for the majority of the total, notably including a substantial proportion of accelerated bookbuilds (ABBs). The US in particular has been driving activity, accounting for 43% of global ECM issuance in the first half of the year. Activity in Europe, the Middle East and Africa (EMEA) has been more subdued in comparison, but nonetheless is up 29% year-on-year.

Market participants have characterised this wall of issuance into three buckets. An initial wave of Covid-related activity for companies in distressed sectors such as leisure or airlines, which urgently needed a cash injection, plus other sectors where the need for cash wasn’t as extreme but where companies were nonetheless keen to build up a ‘war chest’. And for issuers in select sectors which have performed well during coronavirus market conditions, such as healthcare or technology companies, it has proven a good moment to opportunistically raise finance.

Santiago Gilfond, co-head of Americas ECM origination at Credit Suisse, said: “We’ve seen all types of issuers accessing the market, whether they were distressed, whether they were well positioned and wanted to be aggressive and opportunistic, or companies that wanted to take some insurance.”

Surge in convertible bonds

An interesting market characteristic during this period has been the volume of convertible bond issuance taking place. Global convertible offerings reached $94.3bn during the first half of 2020, a 41% increase on the same period last year. The structure of convertible bonds – which can be converted to equity at a later date – have proven attractive to issuers and investors alike in this period of uncertainty. For issuers, it can allow them to raise capital at a lower coupon cost than with a conventional bond and delay issuing equity. For investors, it can also be a win-win with a guaranteed coupon as well as the possibility of being able to cash in on share price growth.

Gareth McCartney, head of ECM, EMEA, at UBS, says: “Convertibles are still attractive for issuers; you get very good terms, given where credit spreads are, given where volatility is and everything else. Secondly, it’s a differentiated investor base, so it gives you a chance to widen out where you get your funding from. I also think it gives issuers a bit more flexibility. You can do two thirds in ABB and a third in convertibles. It’s just a good extra funding source that we will see continued to be used.”

Many issuers have taken the opportunity to raise capital using a combination of structures, a new phenomenon according to David Getzler, Société Générale’s head of ECM, Americas. “Until Covid-19, when we talked to companies they would very much look at financings as separate and discrete decisions. They would consider equity as a strategic financing at one point in time, separately consider a convertible as more of a capital markets financing at another time, and would rarely combine them. What we saw coming out of Covid, was the need for companies to raise very large amounts of capital, and that required being ready to access all potential capital markets; thus we saw quite a number of multi-tranche offerings being a combination of debt, equity and converts.”

One notable example of this was Southwest Airlines, which in late April raised $6bn through equity, convertible bonds and straight debt issuance. Such was the demand, that it was able to upsize the equity tranche from $1.5bn to $2bn and the convertible bond from $1bn at launch to $2bn.

A confident market

The fact that investors have continued to absorb so much issuance of all kinds, with little sign of fatigue, is a notable feature of this market. However, for some bankers it is of little surprise, given that within the investor base of private equity funds, pension funds, hedge funds, mutual funds and individual investors, there continues to be tremendous amounts of cash, and with interest rates so low, the equity markets remain attractive compared to other options.

Additionally, the significant interventions made by central banks in April, most notably the Federal Reserve, appear to have fulfilled their purpose of buoying market confidence. One market participant remarked: “I think that the Fed backstop is very much supporting markets and investor confidence in the fact that there won’t be disaster scenarios. And, therefore, investors are willing to say ‘well, what happens over the next 12 months doesn’t really matter. If earnings are not great for this restaurant, or that airline or that industrial company, it’s fine, because the government’s going to be there to buy whatever paper needs to be bought’.”

In the context of infection rates for Covid-19 remaining high in many parts of the world, including the US, the apparent level of market confidence could potentially be seen as curious. However, disruption for the remainder of 2020 and into 2021 has largely been baked into investors’ assumptions at this stage, and they are looking ahead to recovery.

Mr Getzler says: “While the consensus view from investors is that the economy is on a path to recovery, there is a little more concern now about the extent and pace of the reopening of the economy and the recovery, given the recent spike in Covid figures. It looks like investors have pretty much written-off 2020, and the question is more about when in 2021, or, if you are less optimistic, 2022, will we see gross domestic product back to its 2019 levels.”

The sense that there is still scope for volatility in the near horizon is driving firms to continue bringing forward their equity raising plans. Eric Arnould, global head of ECM at Natixis, comments: “I would strongly encourage my clients to seize any window of opportunity sooner rather than later, because if you consider that you may need some equity, now is a good time to talk to the market because investors are here, they have cash and they have appetite. And a number of drivers for a new volatility peak are still ahead, because of the pandemic, the US presidential race and wider geopolitical tensions.”

IPO recovery

IPO activity has been a case in point, with favourable market conditions for the right companies, and the expectation of further volatility in the future, coaxing issuers back to the market. Over the whole first half of 2020 activity was subdued, with IPOs at a four-year low globally and down 21% year-on-year. But they have been warming back up, particularly in the US which has seen a wave of IPO activity. During June 2020, global IPO activity reached $18.1bn, which was more than double the level of activity in May 2020 and three times that of April.  

For issuers in the right sectors, such as technology and healthcare, as well as well-established names with resilient business models, it has proven to be a great time to go public. Jim Cooney, head of Americas ECM at Bank of America, observes: “New issues have generated significant alpha for investors – the average 2020 IPO is up over 50%.”

In the US, big names such as Warner Music, ZoomInfo [video conferencing] and Royalty Pharma have made their debut in recent months, with shares performing well in the aftermarket. In Europe, there have been fewer listings but coffee business JDE Peet’s made an impact with its €2.25bn IPO at the end of May, as well as smaller IPOs such as Norwegian video conferencing business Pexip.

This momentum among well-placed issuers is not expected to diminish. “Even before Covid-19 there were a number of companies focused on accessing the markets in the first half of the year to stay away from any potential [US presidential] election volatility,” says Douglas Adams, global co-head of ECM, at Citi. “We’re now finding companies that were looking at IPOs in 2021, and beyond, asking the question of what’s the near term opportunity to go public. There are a number of motivations for these accelerated discussions including the current strength of the market, companies trying to get ahead of future uncertainty or companies simply needing capital.”

Achintya Mangla, global co-head of ECM, at JPMorgan, echoes this view: “The ABB and the convert market has taken the lion’s share of the issuance. But I do believe that the IPO market is robust for the right equity stories and I think a lot of issuers are looking at taking companies public, with accelerated timelines. There is strong investor receptivity. The IPOs that have got done have performed well across the board. The IPO pipeline is gathering steam.”

A moment in the sun for SPACs

In the US, an additional interesting dynamic within the IPO market has also been a surge of interest in special purpose acquisition companies (SPACs) transactions. SPACs, often known as blank-cheque companies, are companies formed specifically to raise capital via an IPO, which will then use that capital to acquire an existing company. Virgin Galactic is perhaps one of the most well-known companies to list publicly via its merger with SPAC, Social Capital Hedosophia, in October 2019. More recently MultiPlan [healthtech firm], Utz Brands [snack foods] and Draft-Kings [sports betting] all went public via mergers with SPACs in the second quarter of 2020, resulting in positive returns for investors.

As of mid-July, more than 40 SPACs have had IPOs, compared to 59 in the whole of 2019. Mr Cooney says: “SPACs thrive on reputations, as opposed to financial metrics, which allowed for a constant flow while the remainder of the capital markets came to a halt. Market conditions have improved and the SPAC momentum has persisted. We have seen $12bn in issuance year-to-date, as compared to $13.3bn in the entirety of last year.”

In the past, SPACs were regarded as more of a niche option for companies unable to go public via a more conventional IPO process; however they have become increasingly mainstream and are well-suited to current market conditions. Joel Rubinstein, a partner in White & Case’s capital markets practice in New York, says: “We see many high quality and well-known investors and operating executives participating in SPACs, either as SPAC sponsors or in taking companies public through SPACs. The stigma which many people perceived in the past of choosing a SPAC deal over a traditional IPO is fading fast as market participants come to understand the advantages of choosing this route to going public.”

For a company wishing to go public, the appeal of using the SPAC route is that it can be quicker and the process less onerous in areas such as disclosure requirements. John Kolz, co-head of Americas ECM origination at Credit Suisse, says: “If you’re a company thinking, ‘We need to accelerate our capital plans, given everything that's going on in the world’, and could start down the IPO process and take six months, or could start out a SPAC process and take three months, a lot of them are choosing SPACs. Historically, SPACs were for companies that couldn’t go public any other way and that is absolutely not the case anymore. Now it has sometimes become the preferred route for a company that has every option in front of it.”

For investors, while they may not have certainty about how the capital will be used, they will have visibility over the team leading the SPAC and, with increasingly high profile sponsors getting involved in these deals, it can be an attractive prospect. There is also something of a safety net in that if after two years the SPAC’s funds have not been used to make an acquisition, then it will be dissolved and investors can reclaim their capital.

Evan Damast, Morgan Stanley’s global head of ECM syndicate, says: “You have no shortage of investors that are willing to back a high quality team and trust that they’re going to find the right asset and integrate it the right way. And it is kind of a no-brainer on some level to at least raise an initial amount, because it’s in treasuries, rates are zero anyway and if you don’t like what you hear at the end, you can redeem. So why not support the potential for what could be a great opportunity?”

Strategy rethink for non-winners

Issuers, and sponsors, who are perceived as “winners”, or at least have the ability to survive the current period in good health, have clearly been able to take advantage of current market conditions. But at a wider level, the fallout from the pandemic, and the drastic shifts it has brought in how people are living, is prompting companies outside of secure or growing sectors to rethink their strategy. It is also accelerating trends that existed before the pandemic – particularly around digitalisation.

“I think that it is difficult to imagine that there is not strategic thinking going on among all those companies where there’s been a massive loss of equity value. And it’s not clear where and how it’s going to come back,” says Andreas Bernstorff, head of ECM, EMEA, at BNP Paribas. “The pandemic is massively accelerating trends which everybody knew were there and thought they were going to play out over the next five to 10 years, whereas they’re actually playing out over two to three years,” he adds.

There is a widespread expectation among leveraged finance and merger and acquisition (M&A) bankers that the fourth quarter will bring a wave of restructuring and M&A activity, as struggling companies seek to rationalise their business activities and focus on refining their core offering in the wake of the current disruption.

More generally, markets are expected to remain busy over the summer period with perhaps less of the usual summer lull given that people are travelling less. Jana Hecker, global head of ECM, at UniCredit, says: “[We saw] this already with much more activity in July than usual. Taking this into account, I think we can expect continued momentum into the beginning of August. Still, a slowdown of issuance in August is likely with issuers aiming to get the best possible terms and not taking risks of tapping windows with limited investor availability. Kick-offs for autumn IPOs are being scheduled with view to launch in September.”

As for how much of this activity will continue to be done remotely, versus physical roadshows and rounds of face-to-face meetings, there is a consensus among bankers that operating remotely has brought some clear efficiency benefits, which everyone is keen to maintain at some level. However, there will always be a role for face-to-face interaction too. Luis Vaz Pinto, global head of ECM at Société Générale, says: “What I’m hearing from investors is ‘We’re happy to do some meetings on video, but for other meetings we want to meet face to face’. And that chimes with what I’m seeing from clients. Maybe there will be screener calls on video and then a lucky few get an office meeting. It is still too early to tell, but I think we will end up with a combined approach.”

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