Outlook 2010: Shelf registrations, hybrid financings to continue to dominate PIPE market

By Stephanie N. Rotondo

Portland, Ore., Dec. 31 - The last year was a surprisingly good one for the private placement market, even despite the doom and gloom that preceded it.

"I don't think anyone knew what 2009 was going to look like," said Stephen Bonebrake, managing director at Pali Capital.

"Expectations were certainly very, very low going into 2009," added Tad Flynn, managing director of corporate finance at Houlihan Lokey.

But despite those low expectations, "the way the year shaped up was pretty good," Bonebrake noted.

What was most notable in 2009 was not any particular deal, both sources said, but how the market adapted to the new economic environment, resulting in so-called "hybrid" private financings.

A surge in registered direct offerings was also something that struck Bonebrake and Flynn, as investors and companies alike wanted to raise money while still covering their assets.

Looking forward, 2010 is expected to be largely a continuation of those trends, Bonebrake said. But according to Flynn, "there are so many economic cross currents that the normally cloudy crystal ball is even cloudier than usual."

Still, the PIPE market is "resilient," Flynn added, and those seeking financing can benefit from the private marketplace.

2009 PIPE issuance not too bad

As 2009 got underway, many in the market were "wondering if the floor was going to be beneath us," Bonebrake said. "It was a very uncertain time."

But uncertainty is never good for businesses, especially those that are in need of capital. So it was somewhat surprising that the year saw as many deals as it did in the PIPE market.

"Twice as many companies as last year [went out] and raised equity capital," Bonebrake said, as the markets opened back up. "The deals got done confidentially because nobody wanted to be out with a public transaction given the volatility."

"It was a pretty good year for PIPE issuance," he added, though the total number of transactions and the aggregate proceeds did decline some.

But that was largely due to the share of the PIPE market in 2008. In 2008, he explains, financings were used mostly for balance sheet recapitalizations, particularly in the financial and securities firms. "So that is why we had that spike [in 2008]," he said. "It was a lot broader this year."

Last year, he continued, saw many more "jaw-dropping" deals, but again he noted that the majority of them were balance sheet recaps. But in 2009, the market was a return to the norm, he said, as the "mega-deals" of 2008 were no more.

New trends: The shelf and the hybrid

Bonebrake deemed 2009 "the year of the shelf," as investors sought "registered and liquid" deals over those that were unregistered offerings.

"The liquidity squeeze in the market had reached unprecedented levels, and a general flight to quality was underway," added Flynn. "This suggested that PIPE activity would be limited to registered directs in names with very ample liquidity, which was basically what was seen in the first quarter."

According to Bonebrake, about 85% of equity raises in 2009 were done off of shelf registrations. "That's kind of historic," he said. "Going forward, we expect to see a continuation of that trend and a broadening across sectors."

Flynn, however, was hesitant to commit in either direction.

"It will probably be a function of how 'liquidity' is priced into the market," he said. "Historically, registered directs frequently met with resistance out of concern that there would be 'flippers' who could cause the stock to come under pressure immediately and ironically many accounts used to prefer unregistered deals to ensure that all participants had a base level of 'investment intent.'"

Another trend that both Bonebrake and Flynn saw in 2009 was what Bonebrake called "the rise of the hybrid approach."

Bonebrake explained this new transaction execution approach as one that would start out as a typical confidentially marketed registered direct offering. Once the book was in good shape, the underwriter would "flip it to a public [offering]," and then the deal would get done on an underwritten basis.

In some cases, this type of approach was beneficial to companies, Bonebrake said, as the public nature of the distribution obviates the need for shareholder approval to comply with the Nasdaq 20% rule.

"We've seen them crop up this year," he said. "I expect to see more as companies look to raise more money."

"Personally, I've focused less on notable deals and more how PIPEs have continued to become more mainstream," Flynn added. "What I've found notable is the increase in 'wall crossed' follow-on offerings, which is a hybrid between a registered direct and an accelerated bookbuild. That's been a good marriage between PIPE techniques and conventional equity offerings."

Still, this new evolution of private financings does bring about questions as to what will happen to the more "traditional" PIPE market, Bonebrake said, as companies and investors alike attempt to get more creative with their financings.

Hedge funds still dominant

As the market fell out in 2009, many in the financial and securities arenas found themselves without jobs. In some cases, that also meant that there were fewer people working desks and managing portfolios.

But that has also meant that there were opportunities for new investors to enter the PIPE space.

"The hedge fund community, in aggregate, certainly has retreated with fewer players and a change in thought leadership," Flynn remarked. "Sponsors have risen in importance in terms of dollar amounts involved, although the hedge funds remain by far more prolific.

"The interesting trend has been increasing involvement from classic institutional investors who began showing a willingness to 'go over the wall' to help defend existing investments," he added.

Bonebrake noted that many of the more active firms that were historically involved in the PIPE market had retreated.

While he agreed that hedge funds were typically the most active in the PIPE market, "we lost a lot of people that had been active over the years on the investor side." Some new players have thrown their hats into the ring, "but there are fewer players than 12 to 18 months ago."

The evolution of 2010

If anything was learned in 2009, it was that companies - and those financing them - needed to adapt to the new economy and marketplace.

But as the evolution of the market is still new, it is hard to determine exactly what the private placement realm will look like in 2010.

"None of us have crystal balls," Bonebrake said, although he did speculate that he would "expect another strong year for companies unless we have another significant correction."

"Who knows?" said Flynn. "There are so many economic cross-currents that the normally cloudy crystal ball is even cloudier than usual.

"What we can say is that the PIPE market is a resilient market where companies with financing needs that don't lend themselves to a graceful public market solution can attain customized capital to meet their needs."

Flynn also noted that the market would see more adaptation going forward.

"In 2006, while at UBS, we helped to incorporate greenshoes into registered directs to support the aftermarket," he said. "Subsequently, we worked to provide for margin financing against pure PIPEs. Then there was the advent of the 'wall crossed' follow-on offering.

"What is clear is that all constituents agree there is merit to having a private forum in which investors and issuers can meet to solve capital raising issues without being subject to the vagaries of the broader market as a whole."

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