Investment bankers have a knack of talking up Initial Public Offerings (IPOs) in January. They might be right in 2017 as several blockbuster offers potentially come to market and IPO values and volumes rise sharply after a few subdued years.
Much depends on the durability of the current bull market. Strong sharemarkets encourage vendors to sell assets and buyers to look for opportunities to put money to work. Weak sharemarkets crush risk appetite and often stop the IPO market in its tracks.
The health of small-cap stocks in 2017 is another IPO swing factor. The S&P/ASX Small Ordinaries index boomed in the first half of 2016 as fund managers chased smaller companies with higher growth prospects. But the index underperformed the ASX 100 in the second half as capital rotated out of pricey small stocks into undervalued blue-chips.
That, and the poor performance of several small-cap floats over the past two years, could dent demand from fund managers for similar-sized offers. Or, at the least, pressure vendors to lower valuation multiples on small-cap IPOs, which may see some floats abandoned.
My sense is that 2017 will be the best float pipeline since the record 2014 IPO market when giant offers, such as the Medibank privatisation, featured. I’m bullish on the market this year and expect that to translate into heightened IPO activity, albeit with bumps along the way.
The IPO pipeline’s visibility is noticeably stronger than 12 months ago. Back then, it was hard to pinpoint any upcoming floats of size. The year’s largest IPO was Reliance Worldwide Corporation (RWC), a relatively unknown US-focused plumbing manufacturer.
Confirmed large IPOs for 2017 include Origin Energy’s (ORG) divestment of its upstream gas and oil business and Crown Resorts’ (CWN) sale of a 49% stake in some of its hotel and retail property assets, subject to approvals, through a Real Estate Investment Trust.
Accolade Wines, Australia’s second-largest wine company, is tipped for a billion-dollar IPO or trade sale in 2017 and Zip Industries, a boiling-water dispenser business, is another IPO chance. Alinta Energy’s is a mooted billion-dollar float is in 2017.
Then there’s the possibility of a 51% sale of the Western Australian government’s Western Power Utility, expected to be worth as much as $11 billion and potentially the biggest float since Telstra Corporation (TLS). The privatisation plan, to be taken to the WA electorate in the March election, depends on the government retaining power.
These floats alone, should they occur, could match the $8.3 billion raised through 89 floats in 2016, according to Switzer Super Report analysis.
Of course, some blockbuster floats may not occur, be deferred or abandoned, or sold by trade sale to another company. But the fact that there are at least half a dozen potential IPOs of note for 2017 is promising.
Corporate divestments could be another IPO driver in 2017. Origin Energy and Crown’s proposed asset spin-offs via IPO are a sign of things to come. I wrote on divestments several times for this report in 2016 and believe many are better investments than IPOs.
My sense is boards might be more willing to approve asset divestments this year, to streamline the parent company and create value to shareholders through a spin-off of the “child” asset, which has a better chance to grow as a standalone business.
Resource floats will also feature in 2017. The mining-investment downturn and commodity-price slump from 2011 smashed materials floats. Mining and energy IPOs seemingly had chicken pox in the eyes of investors and few proceeded in a brutal float market for resources.
If the commodity and resource-stock rally continues, watch for a rush of mining IPOs this year given pent-up demand to raise capital to explore tenements or develop existing resources. Most mining floats will be for smaller rather than larger ventures, as is usually the case, but the return of resource floats is healthy for IPO volumes.
That’s the good news. The bad news is that investors will need extra care with IPOs in 2017.
Rising float volumes and values, while good for vendors and their advisers, are not always good for investor portfolios. A hot IPO market typically encourages a rush of overpriced, lower-quality businesses looking to cash in on buoyant investor sentiment near the market top. The best time to buy floats is often at the start of IPO cycles, such as in 2013, when better quality, more appropriately valued businesses come to market.
I have long argued that investors are better off buying floats after they list. There are always exceptions when high-quality IPOs come to market at attractive prices, and buying during the offer period makes sense. Such floats are rare these days and waiting a year or so – when the company has more history as a listed entity – is smart investing.
Here are five IPOs from 2016 that caught my eye:
1. GTN (GTN)
The traffic-report provider performed strongly after listing on ASX in May 2016 at $1.90 a share. GTN is the largest supplier of traffic reports to radio stations in Australia and has operations in Canada and the United Kingdom.
It has a terrific business model: sign up more radio stations to its free traffic reports, expand the listener audience, attract more advertisers and charge them a higher rate to sponsor the report. In doing so, GTN is creating a formidable barrier for rivals.
The potential for higher advertising yields and growth in its Canadian and United States operations make GTN a stock to watch. Population growth, worsening traffic congestion and greater demand for traffic reports will not hurt either.
After soaring to almost $4, GTN has fallen to $2.80, creating an opportunity for long-term investors who are comfortable with micro-caps.
Source: Yahoo!7 Finance
2. Reliance Worldwide Corporation (RWC)
The plumbing manufacturer took the market a little by surprise last year when it listed after a $919 million IPO at $2.50 a share. I doubt enough investors understood the scale and solid market position of the family-owned company.
Reliance has excellent leverage to an improving US economy and growth in its housing market, and is well-positioned in the critical big-box hardware retailing chains. Macquarie Equities (an adviser to the Reliance IPO) has a 12-month price target of $3.73, suggesting the stock is undervalued at $3.08.
Source: Yahoo!7 Finance
3. Monash Absolute Investment Company (MA1)
Monash added to the long line of Listed Investment Companies raising capital and listing on ASX through IPOs. After raising $52 million, the LIC’s $1 issued shares trade at 88 cents.
Monash’s mandate is to deliver returns of 12-15% annually (after fees) over a full investment cycle. Its high-conviction investment style can work in a rising and falling market. The LIC has some well-performed stock pickers at the helm and is off to a reasonable start.
It is usual for LIC floats to trade at a discount to the net tangible assets (NTA) as the market digests the IPO’s offer costs and waits for the LIC to establish a performance record. Monash’s 88-cent share price compares with its latest pre-tax NTA of 93.6 cents, meaning prospective investors are buying the LIC at a discount to the value of its assets.
The main hesitation is whether Monash, which has knack of spotting undervalued small-cap stocks, can outperform if the smaller end of the market is out of favour. Still, Monash looks like one of the higher-quality LICs to have joined ASX in recent years and suits experienced investors who are familiar with the investment style of listed hedge funds.
Source: Yahoo!7 Finance
4. Michael Hill International (MHJ)
The prominent New Zealand-based jewellery retailer dual listed on the ASX through an IPO in July 2016 at $1.05 a share (no capital was raised). After racing towards $1.80 a share, Michael Hill sold off a low of $1.15 in the fourth quarter amid signs of sales weakness.
Michael Hill this week announced a total stores sale increase of 5.7% for the December 2016 half and same-store sales growth of 1%. The stock is up about 10% on its recent lows, even though its second-quarter 2017 sales were a touch soft, in line with industry trends.
Michael Hill has good medium-term growth prospects given its multiple growth engines across different product lines and markets. The new Emma & Roe charm-bracelet concept looks like an early winner. The New Zealand and Canadian operations are going well and Michael Hill is delivering okay growth in Australia. A concern has been weaker-than-expected performance in its US operations.
I like the outlook for low- and mid-priced jewellery demand in the next five years. Another jewellery stock I have followed for the Switzer Super Report, Lovisa Holdings, has rallied sharply after heavy falls earlier this year. Michael Hill’s gains will be smaller by comparison, but it looks like one of the better-quality small retailers to have joined ASX.
Source: Yahoo!7 Finance
5. New Zealand King Salmon Investments (NZK)
The long-established company continued the trend of Kiwi companies dual listing on ASX to gain access to Australian capital, improve their share liquidity and get in front of a larger investor audience. The company raised $74 million in an IPO at $1.07 a share in October.
New Zealand King Salmon Investments, now $1.25, is the world’s largest aquaculture producers of king salmon under its Ora King, Regal and Southern Ocean brands. It had revenue of NZ$114 million and underlying earnings of NZ$16 million in FY16.
The aquaculture industry has good long-term growth prospects as global demand for salmon increases. New Zealand’s reputation as a leading supplier, and its strengths in aquaculture sustainability, make it well placed to meet rising demand.
If New Zealand King Salmon can lift its valuation multiple (10.9 times forecast FY18 earnings at the offer price) closer to its closest Australian peers — Tassal Group and Huon Aquaculture Group — a steady re-rating of its share price in 2017 is possible as the New Zealand group’s market profile rises.
Source: Yahoo!7 Finance
Tony Featherstone is a former managing editor of BRW and Shares magazines. All prices and analysis at January 10, 2017.
Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regards to your circumstances.