Buoyant markets are typically a major catalyst that encourages a migration of private companies to the public markets. Building on the strong Initial Public Offering (IPO) window in the second half of last year, 2021 has started in a flurry as investors hunt for growth in a low interest rate environment and vendors look for attractive valuations.
Since the beginning of 2021 there have been 45 new company listings on the ASX of various sizes and quality (Figure 1) with an average return to 13th May of 16%. While the cadence of new deals may appear high over the past five months, incredibly, it’s a sharp slowdown relative to December last year when 26 IPOs were recorded. Figure 1 below illustrates all new companies which have come across our desks over the past 5 months.
While the frequency of IPOs is a dead giveaway of market confidence, carefully tracking the industries and vendors for potential insights will help us assess whether these opportunities are worthwhile. From the recent cohort of deals, some themes are noted below:
Resources companies have accounted for approximately 50% of all IPOs this calendar year
Australia is experiencing very buoyant conditions as activity picks up among our key export commodities. Prices of Iron-Ore, Copper Nickel and Gold have been robust and remain at recent peaks (Figure 2). As certain as death and taxes, is the appearance of junior miners looking to cash in on the boom.
Equity is raised to fund broad drilling campaigns in new tenements as they attempt to discover the next big mineralization. Some timeless quotes you would expect to find in the prospectus include ‘application for tenement still pending’ and ‘assets with significant potential’!
At Milford, our preference is for cash generating resource companies with proven deposits and mining execution.
Figure 2 Source: Bloomberg
Private equity vendors are now required to retain larger ownership with long dated escrow arrangements
Long gone are the days when Private Equity firms could achieve a full exit upon IPO. Market participants now require Private Equity funds to retain a significant level of ownership in the listed vehicle, at least until market prospectus numbers have been achieved.
The change in structure is a positive development given it holds vendors more accountable with significant skin in the game. A classic example in the recent cohort is consumer finance company Latitude Financial (LFS.ASX). After two failed IPO attempts in the last three years, Latitude restructured the recent IPO with four main investors retaining approximately 80% share ownership on listing, with restrictions on sale until June 2022.
Given the prevalence of private equity deals, we always get excited when founder-led businesses come to market. One that has caught our eye is Dangerous Goods Logistics (DGL) which is a speciality chemicals and dangerous goods business offering solutions from manufacturing to recycling. DGL has operations in New Zealand and Australia and operates in highly regulated industries where there are stringent regulatory and compliance measures in place. The IPO will see the sole shareholder and founder Simon Henry diluted to 57% ownership, with a 2 year escrow and no initial selldown.
The steady stream of non-bank lenders has continued from 2020
A trend that has emerged in the past 12 months has been multiple IPOs of non-bank financial service lenders. Some examples include near-prime mortgage lenders like Liberty Financial (LFG.ASX) and Pepper Money (PPM.ASX). These lenders rely on a range of sources to fund the origination of financial assets, but most commonly utilise wholesale major bank warehouse facilities.
These facilities are priced off a benchmark interest rate like the Bank Bill Swap Rate (BBSW). In the current environment, BBSW is priced below the cash rate which has significantly boosted earnings margins of most players. While the favourable conditions may well continue, it’s worth keeping in mind that earnings may currently be elevated which has motivated the sale.
Conclusion
At Milford, we typically approach IPOs cautiously. The high level of information asymmetry between current owners and potential investors and the motivation to paint a positive story is always something to keep in mind. While these dynamics are not always red flags to a potential investment, being aware of them means we can make better informed decisions when researching new companies looking to list.
