The 1996 market probably resembled that of 1983 more than it did the markets of 1995 or 1993. In those three years, statistical records also were set. But the rush to go public, so much in evidence in 1983, was a hallmark of the 1996 market, as was a major midyear correction in both years.
Because the market "is heading toward the end of an extraordinarily long IPO cycle," says Wall Street veteran Tom Stephens, who packaged public offerings in '83 for a small underwriter, "lots of companies were too early to be in the hands of the public. They really should have been late-stage venture or mezzanine deals." The parallel between '83 and '96 is "uncanny," Stephens notes. "Back in '83 shops like ours cranked out a lot of crap," he admits. "If you thought you had a shaky, overpriced deal, you got it public quickly so the venture guys could get rid of the thing. We brought out one company at 7 and a year later it was 11--Chapter 11."
Although one underwriter was investigated by the Federal Bureau of Investigation and the SEC last year, on the whole the bankers of our small-company group behaved better than that: as of the spring of 1997, not one of their issues had gone under. The issues did, however, manage to lose 1.4%, on average, from their IPO date to the end of the year.
So, did 1996's burst of immature companies going public signal the end of a speculative IPO market? On the contrary, attests John Hentrich, a partner at Baker & McKenzie, a prominent West Coast law firm, who specializes in handling public offerings. "In 1996 there was a significant increase in the ability of emerging growth companies, especially technology companies, to effect a public offering at an earlier stage than they used to," he says.
"To my mind, '96 was epochal," effuses Hentrich. "It was broader and more solid than '83. Whenever a market gets hot, there are bound to be frothy transactions that get carried along with the others. But there's another side: in the early '80s many of the companies that the overaggressive investment bankers took public failed, but a number of others actually became major industrial enterprises. Most of the funding I saw this year went to quality companies that, with that infusion of public money, will be able to offer products and services sooner than they otherwise could. It's a tremendous plus for the economy."
That may be. But is it possible that last year marked a juncture in which the economy ran out of quality private companies to fund--especially given that the market for initial public offerings, which posted caution flags in June of last year, has kept those flags flying into the first months of '97? Not to Hentrich's thinking. "Capital has been increasing at a tremendous pace," he acknowledges, "but there's also been an explosion in productive areas of investment. To my mind, '96 represented a culmination of the growing concentration of technological and entrepreneurial talent in the United States, combined with the availability of capital to continue to fund that talent. It came together in a way that I think is going to be regarded as special when we look back on it, and it's the IPO market that's driving all this energy."
How this unprecedented IPO boom will end is, of course, unclear. But one thing is certain: the market does purge excesses, as it did in '83. To be sure, the makeup of the market has changed since then, from being composed mostly of gullible individual investors to being about 75% made up of institutional trust departments, money managers, and mutual funds today. But, notes Tucker Anthony's Stephens, the pros are just as subject to euphoria and poor judgment. "Young bankers and managers caught up in the momentum of markets do things no gray-hair would think of doing. A lot of them buy weird stuff. They haven't experienced how bad it can get when it gets bad."
Wall Street's senior set has been warning about the possibility of an abrupt turnaround since the beginning of the bull cycle, in 1991. It has been wrong all these years, but starting in the latter half of '96 and continuing into '97, IPOs have been going off at the lower end of their target stock-price ranges and staying there awhile, rather than more than doubling the first day out, as, say $1.4-million Yahoo! did in '96.
"The window has closed to a certain degree," observes John Canepa, a partner in the high-tech practice of Arthur Andersen in Boston. "So far in '97, it's more like a screen." Oddly enough, companies with low to no revenues have continued to complete IPOs. That's no longer because of speculation fervor, Canepa holds, but because of a sound rationale: product-development cycles have shortened dramatically, and whereas only a few years ago companies took as many as five years to bring out a product, most now do it in two. As a result, emerging businesses legitimately seek public funding far sooner than they used to. "Because products become obsolete more quickly," he explains, "small businesses constantly need money so they can bring out that next generation."
Now that the market has cooled, there are plenty of companies that, failing to get sponsorship within their hoped-for price range, have withdrawn their offerings. But getting to that stage can be expensive, counsels Bruce Emmeluth, managing director of corporate finance at Van Kasper & Co., an investment banker in Los Angeles. Today a small company will do itself a big favor by rethinking its ambitions. "Underwriters get paid whether or not a deal is completed," he says. "So if you have a deal that aborts at the end, not only are you out your time, you're also out a lot of money." In short, if a deal isn't doable, don't force it. A CEO could end up relying on a mighty expensive red herring to raise private funds.
