IPO Watch

On 21 August the operator of our share market, ASX Limited (ASX) provided hard evidence of a trend of which many Aussie investors are already aware – the IPO market is booming.  ASX Limited reported a 3.1% revenue increase year over year along with a 10% rise in profit, attributing these results in large market to the strength of the IPO market.  According to the release, a total of 107 new issues came on the ASX in FY 2014, which averages out to about two every week.

While the total IPO market has been kind to the ASX, the same cannot be said across the board for individual investors, eager to get in on the “ground floor.”  A recent article pointed out that more than half of the new floats issued since the beginning of 2013 are trading “underwater.”

As an example, the highly touted float of online job market Freelancer Limited (FLN) had an issue price of $0.50 but retail investor enthusiasm bumped the first day of trading opening price to $2.50, which dropped to $1.60 at the close.  The shares now trade around $0.82.

One of the important things to look out is the number of shares the pre-IPO owners held in escrow. Reportedly, between $3 and $4 billion in shares are becoming eligible to trade in coming months.  All cite the disastrous IPO of Myer Holdings (MYR) as reason for caution.

Private equity firms TPG Capital and Blum Capital bought Myer from Coles back in 2005 and sold their entire stake in the IPO at the issue price of $4.10.  The share price closed its first day of trading at $2.66.  While exiting a company upon an IPO is not a new practice, the Myer experience has caused many private equity firms to maintain ownership stake in escrow before shares can be sold.  The escrow periods vary, but generally coincide with the release of financial results. This has led both analysts and investors alike to pay attention to the potential sell-offs following the release of shares held in escrow.

The following table lists seven recent IPO’s; we can examine to see what impact, if any, the release of escrow shares had on the stock price.  Here is the table.

M2 Telecommunications (MTU) is not a recent IPO but it did have shares held in escrow from an acquisition.  A six month share price chart for MTU suggests the possibility the release impacted the share price on a short term basis, although this is far from definitive proof.  Here is a one year chart for MTU.

Private equity firm Anchorage Capital bought consumer electronics Dick Smith Holdings (DSH) from Woolworths in September of 2012 and by all accounts has brought the company into solid financial performance, with improving earnings and plans to add stores.  Anchorage took the company public on 4 December 2013, in an economic climate hardly favorable to retailers.  In addition, some analysts openly speculated that Anchorage would replicate the Myer mistake, shedding its ownership stake in the IPO.  Questions were also raised as to why Anchorage would want to get out of a company with a supposedly bright future.

Anchorage maintained a 20% stake following the IPO and shortly after the release of Dick Smith’s Full Year 2014 Earnings and the end of the escrow period, Anchorage informed the ASE that “in light of the recent trading results and our positive view of the Company’s future prospects, we currently have no intention of selling at the prevailing market price.”  Dick Smith’s profit exceeded the forecast stated in its IPO Investor Prospectus by 5.3%.

The issue price for DSH shares was $2.20 and the stock closed its first day of trading at that price.  The share price has been volatile since, but the positive earnings release and the Anchorage announcement have sent the price back into essentially flat territory.  Here is a price movement chart for DSH since it came on the ASX.

Pacific Equity Partners (PEP), the largest private equity firm in Australia and New Zealand, bought Veda Group Limited (VED) back in 2007 and took the company public on 5 December 2013 with an issue price of $1.25.  On its first day of trading, the stock closed at $1.75.  At that time PEP placed its substantial 63.5% stake in Veda in voluntary escrow, with a release date one day after Veda’s Full Year 2014 Earnings Release on 27 August. (Note: it appears the table from the Australian reflects an ASX announcement of what the actual escrow release date would be.)

In an age of voracious appetite for credit, Veda’s status as the premier provider of credit information and analysis in Australia and New Zealand seemed to bode well for the company’s future. On 27 August the company announced its earnings, beating both its Investor Prospectus estimates and the prior year’s performance, with revenue growth of 12.4% and a 7.8% increase in profit.

Immediately analysts and experts speculated on what PEP would do.  But on 28 August PEP announced it would sell half its stake in Veda and the share price did not budge, closing at $2.21, barely higher than the previous day.  Here is a price chart for Veda since it began trading on the ASX.

Note that although the share price is still up 15%, the current price of $2.21 is well off the high of $2.55.  In Veda’s case, investors buying in at the issue price and those buying in on the first trading day have both benefited.

One of the pitfalls of IPO investing is separating the quality companies from those coming on the market with dubious future prospects.  Researching the Investment Prospectus is an essential step in the process, although investors need to take what they read with caution as the growth prospects are the sole creation of the company.  However, estimates that are far out of line with the company’s prior earnings are potential danger signals.

Veda’s price chart clearly demonstrates there is time to climb aboard an IPO after it starts trading and still profit.  Earnings announcements serve as a reality check, allowing investors to compare actual performance against prospectus estimates.  The two insurance floats from 2013 also provide support for the idea waiting to invest in an IPO has merit.  Here is a price movement chart for travel insurance and medical assistance provider Cover-More Group Limited (CVO) and network general insurance broker and services provider Steadfast Group Limited (SDF).

Despite the ups and downs, both have seen solid upward share price movement following release of Full Year 2014 Financial Results.  Cover-More Group’s revenues and profit exceeded both its 2013 performance and its Investment Prospectus estimates.  The Crescent Capital shares held in escrow will be released on 29 August, and as of midday on the 29th Veda’s shares were up 1.13%.  The company is expanding into China in FY 2015 and has a 37.5% two year earnings growth forecast.  In addition, the company is already paying a fully franked 1.6% dividend, with a two year dividend growth forecast of 26.2%.

Steadfast is still run by its founders so the shares in escrow are unlikely to have a major impact.  Steadfast started as a network of independent brokers and the company has expanded to offer a wide variety of business services to its broker members.  The company’s Full Year 2014 Financials showed an 11% revenue increase over the prospectus estimates and a 15.5% increase over profit estimates.  In addition, Steadfast declared a fully franked dividend of $0.045 per share, for a yield of 3.4%.  On the same date Steadfast announced another major strategic acquisition; this one for Calliden Group Limited (CIX).

Steadfast listed with an issue price of $1.15 and closed its first trading day at $1.40 while Cover-More had an issue price of $2.00 with a first day close of $1.77.  Both companies are now trading below the 52 week high.

Nine Entertainment Company Holdings Limited (NEC) is an entertainment and media company whose principal source of income is advertising over its well-known free-to-air television stations.  The company also operates the online Mi9 network, trailing only Google and Facebook in Australia.  NEC debuted on the ASX with an issue price of $2.05, and has remained essentially flat, although it did reach a 52 week high of $2.39.  Here is a price chart for NEC.

This company serves as an example to put IPO investing into perspective.  Essentially, there is no difference between buying NEC shares on its first day of trading and buying the shares of any other company.  Granted, there is no history of price movement, but on the other hand IPO’s offer investors a better opportunity for “due diligence” than most.  An Investment Prospectus spells out how the company makes money, how it expects to make money in the future, and how the funds raised in the IPO will be utilised.

Novice investors quickly learn to look for stocks of companies in growth industries.  Sectors that benefit from long term economic trends such as health care excite investor interest, and they should.  Regarding NEC, one has to ask why invest in an industry on the downside of the digital revolution?  Investors who took the time to thoroughly digest the Nine Entertainment Prospectus were treated to the company’s own caveat that “with the continued development of alternative forms of media, particularly digital media, Nine Network may face increased competition for advertising revenue. “

McAleese Limited (MCS) is in the transport and logistics business, serving original equipment manufacturers, mining companies, global oil and gas companies, and construction management firms.  The company operates in two divisions – McAleese Specialised Transport & Lifting, and McAleese Bulk & Liquid Transport.

The company listed on 28 November 2013 with an issue price of $1.47 and a first trading day close of $1.57.  Beset by concerns over the mining slowdown, a disastrous accident in its Cootes Transport business, weather issues, and loss of contracts; the share price has been on a downhill slide since, at one point earning the dubious distinction of the worst performing IPO on the ASX.  Here is the chart for MCS.

On 18 February all the bad news came together and the company announced a profit downgrade.  The accident necessitated a restructuring of its Cootes Transport operation which coupled with weather-related troubles and the loss of haulage contracts sent the share price plummeting.

With a 70% decline in share price in less than a year, McAleese appears a textbook example of the difficulties of navigating the IPO market.  Three of the investment banks managing the IPO, JPMorgan Chase & Co, Credit Suisse Group and Macquarie Group Ltd, all had Buy ratings on MCS after the IPO.  The share price got a boost on 11 August when MCS management announced the results of asset sales and predicted full year earnings before significant items would be at the upper end of guidance and revenue would be boosted by the company’s acquisition of WA Freight Group.  The shares in escrow are held by the current CEO of McAleese.

Pact Group Holdings Limited (PGH) makes steel and plastic packaging for a broad range of Australian, New Zealand, and Asian customers in the food and beverage, chemicals, agricultural, and industrial sectors.  The 39.8% of shares held in escrow are in fact held by the company’s founder who apparently has no plans to sell.

Pact is not in a trendy or exciting sector, but the company’s Asian expansion plans and commitment to growing its current dividend payment of $0.095 per share should pique the interest of some.  Pact listed on 17 December 2013 with an issue price of $3.80 and closed its first day of trading at $3.32.  With a current share price of around $3.79, Pact is an IPO where the initial retail investors have fared better than those who bought in at the issue price.  The company’s first Full Year Financial results reported on 27 August were solid, with a 3.83% increase in revenue and a 27.84% increase in profit.  With 62 manufacturing plants in operation, Pact is already the largest supplier of metal and rigid plastic packaging in Australia and New Zealand.  Here is the chart for Pact Holdings.

There is one final point that needs to be made regarding investing in the IPO market.  Much of the cautionary advice you read tends to group IPO’s together, as though there were an IPO “sector.”  There isn’t, as you well know.  Investors who treat each IPO on its own merits, use the Investment Prospectus as an analytical tool, tune out much of the breathless hype, and have the patience to wait can be well rewarded.

Please note that TheBull.com.au simply publishes broker recommendations on this page. The publication of these recommendations does not in any way constitute a recommendation on the part of TheBull.com.au. You should seek professional advice before making any investment decisions.

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