How to fix Europe’s IPO model (in five easy steps)

Author: Gemma Varriale | Published: 20 Mar 2013
Email a friend

Please enter a maximum of 5 recipients. Use ; to separate more than one email address.

KEY TAKEAWAYS

  • Latham & Watkins have put forward a list of proposals aimed at improving the IPO process in Europe;
  • Fewer companies are successfully completing IPOs in Europe, with just 263 offerings in 2012;
  • A key element of the proposals involves giving investors additional access to management and time with the prospectus;
  • The proposed shake-up also questions whether pre-deal research is a necessary feature of the IPO model;
  • The attitude of Europe’s leading banks will determine whether these changes are driven through.

Latham & Watkins have come up with five steps detailing how to improve the European initial public offering (IPO) model. The proposals are gaining traction with some of Europe’s leading banks.

The roadmap suggests tweaking the current model, as opposed to tearing it down and starting over again, as has been suggested in some quarters.

Although there are many views on the causes of the weakened state of Europe’s IPO model, it is clear that fewer companies are successfully completing IPOs in Europe. According to one PricewaterhouseCoopers survey, there were just 263 IPOs in Europe in 2012, raising €10.9 billion.

“The changes are necessary because the current model is too burdensome and yields too little results,” said Olof Clausson a partner at Latham & Watkins’ London office and one of the lawyers behind the proposals. “There are too few IPOs, and those that do happen take too long to execute.”

Indeed, over the last decade, Europe’s IPO process has become increasingly complex and time-consuming.

“The amount of work involved for everyone is far beyond what it was ten years ago and it hasn’t produced better results,” he added.

The traditional approach, which is still the mandated method in the US, is that the offering is marketed based on the prospectus and the management slide show presentation, known as the road show. Over time, in the European model, additional marketing methods and documents have been added to the process.

A European IPO today typically consists of three separate work streams. These involve prospectus drafting and related due diligence; preparing the analyst presentation, interacting with the analysts and reviewing draft pre-deal research; and delivering presentations as part of the investor education process.

Clausson’s first proposal to make the process more efficient is to give investors additional access to management and time with the prospectus.

“What we’re saying is we like the US model where the preliminary prospectus is filed with the SEC for between one and two months before the road-show starts,” said Clausson. “It means that investors can educate themselves in good time.”

The idea of giving investors more time with the prospectus could be achieved by sharing a near final prospectus, known as a ‘pink herring’, with key institutional investors.

This system contrasts with the European model where investors get the prospectus the day the road show starts and have two weeks to decide whether the investment makes sense.

The second element of the changes involves rethinking attitudes towards pre-deal research. Even post-Jobs [Jumpstart our Business Startups] Act, pre-deal research is not a feature of IPOs in the US.

For the company’s management, preparing the analyst presentation, engaging with syndicate analysts, and reviewing and commenting on the research reports requires significant additional time on a European IPO.

“If investors get the material information earlier, do the benefits of pre-deal research really justify the burdens involved,” said Clausson. “Would it not be better to focus on getting investor education and the prospectus to investors earlier, while avoiding the cumbersome equity research process.”

Reducing the size of underwriting syndicates is also a central feature of the plans to reinvigorate Europe’s moribund equity markets.

“Our investment banking clients suggest that, except in very large transactions or unique situations, large syndicates are not required for efficient and effective distribution,” said the Latham & Watkins partner.

Another aspect of the changes involves reducing the free-float requirement for companies looking to list on regulated markets. Many European stock exchanges now require that at least 25% of the shares of a listed company be freely tradable.

The reasoning is that at a time when many sponsor-owned portfolio companies may be valued below book, a reduced free float requirement may facilitate exits. In such a ‘partial’ exit, control would be retained and a strategic sale at a control premium may still be an option.

The final aspect of the proposals is for owners, including sponsors, and IPO issuers to engage counsel and auditors earlier in the process. “When underwriters are engaged and the IPO process is formally initiated, it is not uncommon for a series of rather basic structuring and procedural matters to cause substantial delay,” said Clausson.

This would allow the issuer’s deal team to efficiently address matters such as the completion of audits, the analysis and resolution of core corporate governance issues and the preparation of substantial parts of the prospectus, before the underwriters are selected or the process begins in earnest.

The effect of this would be to substantially reduce the amount of time between IPO kick-off and launch, while allowing the underwriters more time to conduct due diligence, develop the equity story and communicate with investors, added the Latham & Watkins partners in their paper.

Who will make the change

According to Clausson, the banks need to be the drivers of this change. “They need to have the strength and the desire to say we’re going to make these changes because the current structure isn’t efficient,” he said.

But it’s what happens with IPOs in the medium term that will determine whether the changes go through.

“If the market sees a few successful IPOs with the old model people might continue along those lines,” said Clausson. “But if we continue not to see successful IPO executions I think the desire to find a new model will be stronger.”

See also:

JOBS Act Quick Start http://www.iflr.com/IssueArticle/3175349/Supplements/JOBS-Act-Quick-Start-e-book.html?supplementListId=88098

How the US JOBS Act helped Man U offering http://www.iflr.com/Article/3076380/How-the-US-Jobs-Act-helped-Man-U-offering.html

SEC IPO rules to provoke conflicts of interest http://www.iflr.com/Article/3108337/SEC-IPO-rules-to-provoke-conflicts-of-interest.html