Coming off a roller coaster year that saw capital markets activity roar at a breakneck pace through Labor Day then suddenly chill amid wider market volatility, 2016 can’t come soon enough for deals lawyers who are uncertain but hopeful a new year will restart the transactions pipeline.
Reasons for optimism abound. Capital markets attorneys say conversations with potential issuers for stock offerings remain robust, suggesting pent-up demand for new filings even as timing is uncertain given recent market jitters. Plus, Congress recently fine-tuned the Jumpstart Our Business Startups Act in ways designed to make it easier for small companies to go public, enacting improvements that capital markets lawyers say will likely help at the margins.
But uncertainty also persists. Skittishness in 2015 was fueled by turmoil abroad, particularly in China, and yearlong questions stateside about the timing of an interest-rate hike, which finally culminated in the Federal Reserve's quarter-point uptick in December. The unpredictability could kick up a notch in 2016 given the coming U.S. presidential election. Against that backdrop, deals lawyers will be closely watching how offerings fare in the early months.
“I think a lot of issuers are waiting for macroeconomic signs, whether it’s a rate change on the bond side or more information on the equity side,” Kirkland & Ellis LLP partner Joshua Korff said. “I do expect an increase in activity in the first quarter of 2016. 2015? I'm ready to put it behind me.”
The choppiness of 2015 was reflected by the pace of initial public offerings — the linchpin of capital markets work — which reached 104 by June 30 and was on pace to surpass 200 for the third straight year, according to data tracked by IPO researcher Renaissance Capital. But activity stalled in late summer and never recovered.
The 2015 IPO market at current pace will produce 170 IPOs, raising $30.1 billion, representing a 38 percent decline in deals and a 65 percent drop in proceeds from 2014, when 275 companies raised $85.3 billion. Amid the plunge, several companies postponed offerings in the fourth quarter while many IPOs that priced did so below range.
Taking a longer view, 2015 was still a relatively busy year for IPOs. While down significantly from 2013 and 2014 — robust years that averaged nearly 250 debuts each — it came well ahead of the 2010-2012 average of 135 offerings a year. As deals lawyers look to 2016, perspectives vary according to the industry and its distinct challenges.
Tech: Will 'Unicorns' Take the Plunge?
The 2015 slump in technology IPOs was particularly notable as more richly valued companies stayed private longer, evidenced by the so-called unicorns, a Silicon Valley term for venture-backed companies with private valuations of $1 billion or more. Venture capital database CB Insights estimates there are now 144 such companies.
Only four "unicorns" went public in 2015, including digital payments company Square Inc., data storage provider Pure Storage Inc., cybersecurity company Rapid7 Inc. and cloud storage provider Box Inc. among a total of 23 tech IPOs in 2015. Renaissance Capital said that was the lowest output for the sector since 2009, when 17 tech IPOs priced.
Robust private financing has enabled the companies to stay private longer, making it less urgent to go public and deal with regulatory scrutiny. Plus, capital markets lawyers note that the original JOBS Act made it easier for companies to stay private by expanding the amount of holders a company can have — from 500 to 2,000 — before being required, like a full-blown public company, to submit detailed financial reports to the U.S. Securities and Exchange Commission.
Congress enacted another change in December that could lengthen the duration of companies staying private by establishing a registration exemption under the Securities Act of 1933 — through a new Section 4(a) 7 — to facilitate the resale of private securities.
The section provides express guidance through which a nonissuer, such as an employee or venture capital investor of a startup, can sell restricted shares of that company to accredited investors, replacing an informal exemption known as the Section 4(a)(1 1/2) that many found onerous. The more clearly codified exemption could make it easier for a private company employee to sell his or her shares before an IPO, attorneys say, easing pressure on companies to go public.
“These two provisions together both give rise to a more robust secondary market” for private shares, Skadden Arps Slate Meagher & Flom LLP partner Stacy Kanter said, referring to the new Section 4(a)7 and the increased limit of holders for a private company.
Even with the growth of pre-IPO trading, capital markets attorneys expect richly valued technology companies to tap public markets at some point, though discerning exactly how many are in the pipeline can be difficult because the JOBS Act allows a confidential filing period before a company makes a firm commitment to go public and begin a road show. Lawyers in the technology space will be paying close attention to what the pipeline reveals in early 2016.
“One thing we don't know is who has confidentially submitted filings,” Latham & Watkins LLP partner Patrick Pohlen said. “Once they start to take that cover off, we will know who wants to access the markets and that would probably be the first sign.”
The high rise in private values has also stoked concerns about a bubble, with skeptics wondering how high valuations can increase. Media reports have estimated that ride-hailing company Uber Technologies Inc.'s valuation has surpassed $60 billion, putting it ahead of record prepublic levels set by Facebook Inc.
But Goodwin Procter LLP partner Rick Kline notes that many tech companies in the current pipeline have demonstrably surging revenue, unlike the dot-com bust of the early 2000s when many hyped but unproven companies fizzled in the Internet craze. By contrast, recent public company Square’s revenue soared 54 percent to $850.2 million in 2014, and the company is on pace to surpass $1 billion in revenue this year.
“It will be interesting to watch the performance of high-growth venture-backed companies who have not yet figured out profitability, but have strong revenue growth," Kline said.
Life Sciences Companies Still Hungry for Capital
While many tech companies avoided IPOs in 2015, life science companies continue to make up a large dose of health care-related offerings, a sector that overall generates an outsize portion of IPOs, contributing to 46 percent of all 2015 offerings, Renaissance Capital data show.
But biotechs haven’t been immune to wider trends, going public at a slower clip than the sizzling pace of years past and more likely to price at discounts as investors turn increasingly skeptical.
Despite headwinds, Cooley LLP partner Charlie Kim said he expects to see plenty of life sciences companies tapping markets in early 2016, given the costly nature developing potentially disease-curing drugs, which creates a greater urgency for funding for pharmaceuticals and biotechs.
“Based on the deals in my pipeline and what I’ve heard, there are a significant number of public offerings that are scheduled to take place in the first quarter of 2016, particularly in the life sciences industry,” Kim said. "A lot of deals have been on hold in the latter part of 2015, waiting for 2016 to arrive.”
Industry watchers will closely follow JPMorgan’s weeklong health care conference starting Jan. 11 in San Francisco, an annual event that brings together health care companies, investment banks and legal advisers hoping to kickstart deals. The period immediately after that conference could see a window open for life sciences offerings, according to Kim, bringing to public plans being made now.
“Even when a lot of deals aren’t pricing, preparation is taking place and many ‘emerging growth companies’ are taking advantage of the JOBS Act and working to clear SEC comments outside of the view of the general public,” Kim said. “So when that window opens, many deals are ready to move quickly and seize upon that opportunity.”
Energy Struggles to Recover From Rout
Energy offerings, a robust sector during the run-up of oil prices, have largely dried up following a plunge that has seen prices fall below $40 a barrel. The sector has produced only 12 IPOs, or 7 percent of all 2015 action, according to Renaissance Capital.
Amid the uncertainty, Noble Midstream Partners LP postponed an estimated $250 million IPO in November, which would have marked the first energy master limited partnership IPO since June, citing weak market conditions. Yieldcos,
public companies formed to house operating power generation assets that produce a consistent cash flow and high investor payouts, also soured in the second half.
“The IPO market is not really open at the moment,” Baker Botts LLP partner Josh Davidson said. “But they are a number of companies ready to do IPOs when the market opens.”
As the energy price crash endures longer than most observers anticipated, Davidson said, some companies are raising capital in other ways, such as issuing second- and third-lien debt. He expects more companies will eventually come to terms with the new price environment and resume raising equity.
Larger public companies have already done so. Houston-based Columbia Pipeline Group Inc., advised by Vinson & Elkins LLP, recently netted $1.4 billion from an upsized public offering of 82.2 million shares. Valero Energy Partners LP last month raised $196.6 million through a stock offering guided by Baker Botts.
"Those kinds of issuers can still get deals done," Davidson said.
Capital Markets Yearn For Certainty in 2016
Apart from those particular segments, Korff said he expects the broader array of industries, such as telecommunications, financial services, retail and restaurant industries to be active in the deal-making pipeline.
Attorneys say that industries of all stripes should at least marginally benefit from recent changes to the JOBS Act intended to streamline IPOs. Those changes include shortening the window from 21 to 15 days for when an "emerging growth company" must publicly file a confidential submission before launching its road show; a longer grace period to retain EGC status; and more flexibility for filing audited financial statements, among other things.
“Every deal in the pipeline is looking at the impact the changes could have on people's schedules," Kanter said.
Legislative tweaks aside, attorneys say the uncertain macroclimate will be the main variable for capital markets deals in 2016, noting that corporate confidence requires a stabler environment.
“The biggest worry many of us have is that companies don't feel sanguine about anything,” Goodwin Procter LLP attorney Ettore Santucci said. “They are tentative.”
Kanter said many of the developments that rattled markets in 2015 — whether China’s plunging stock market, uncertainty about Fed policy or geopolitical instability — are still relevant.
“All the reasons for choppiness that have existed in 2015 are not likely to be off the table in 2016," Kanter said.
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