Q3 2019 Capital Markets Watch

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US megadeal IPOs attract attention despite overall IPO returns remaining strong

Following a very hot second quarter of the year, US IPO markets cooled off slightly as global economic uncertainty and market volatility increased. However, despite a plethora of recent press articles which have created quite a stir about large tech IPOs, the US IPO market remains buoyant and represents a very attractive platform for valuation-setting, capital-raising, acquisition currency, employee retention and investor exits. In addition, the going public process usually results in a stronger and more resilient company, able to grow during the ups and downs of market and economic cycles.

The third quarter saw 46 IPOs raising $12.6 billion - a significant slowdown from the typically busier second quarter which brought in a haul of 71 IPOs raising $27.6 billion, which included $14.5 billion (more than half!) for well-known megadeals that raised more than $1 billion. The current quarter meanwhile included two megadeals.

Third quarter IPOs were also significantly down compared to Q3’18, which had 61 IPOs raising $13.5 billion. Last year was characterized by less volatility when the US economy was growing at a healthy 2.5%, without some of the challenges in the leading economic indicators that are beginning to appear as we approach the end of 2019. Taking a longer-term view of US IPO markets, this quarter was more in line with the past 4 years which averaged 42 IPOs in each third quarter.

The majority of the activity in the quarter occurred in July which coincided with major US indices reaching record highs and the first Federal Reserve interest rate reduction since 2008. However, IPO market activity retreated in August in the usual summer slowdown before re-energizing in September with the two megadeals pricing. Meanwhile, US stock markets saw a record high in July, and finished the quarter up 1% against a backdrop of increasing global political and economic concerns. Furthermore, 10-year Treasury yields fell below the rate on 2-year notes and the yield curve briefly inverted for the first time since 2007, again bringing into focus the historically long duration of the current bull market run.

TMT continues capital raise dominance in Q3’19

In line with six of the last seven quarters, Technology, Media, and Telecommunications (“TMT”) once again led in proceeds raised with 11 IPOs raising $4.1 billion for the quarter, as a result of continued investor interest in scalable software companies. Special-Purpose Acquisition Companies (“SPACs”) once again took the top spot in terms of volume with 14 IPOs raising $3.0 billion, with the majority being focused on consumer investments. Pharma and Life Sciences (“PLS”), and biotech IPOs, continue to be sought after investments, and are featured heavily in the IPO pipeline.

Q3 US IPOs returns outpace the S&P 500

Average IPO returns in Q3’19 were 5%, significantly higher than the broader US indices such as the S&P 500, which returned 1% and the Russell 2000 which returned -3% for the quarter. Equity market returns in the quarter were impacted by periods of high volatility with eight days experiencing more than 50 point swings in the S&P. The Financial Services and Technology (TMT) sectors had the highest returns with 13%, while the Energy, Utilities, and Mining (“EUM”) sector experienced the lowest returns with a loss of 10%.

Follow-on issuance volume and proceeds raised declined significantly in Q3’19

US equity markets priced 153 follow-ons raising $35 billion in the third quarter, which was a decline of more than 14% from the 177 follow-ons which raised $36 billion in the second quarter. This was also a 15% decline from the third quarter in 2018 that saw 181 follow-ons which raised $38 billion. This was likely a result of the same uncertainty and volatility that caused a decline in the IPO market.

The PLS sector led in volume with 62 follow-ons, followed by Financial Services and TMT with 36 and 20 issuances, respectively. The Financial Services sector led in value, raising $9.5 billion, followed by the EUM sector raising $7.7 billion. Follow-ons were priced at an average discount of 8.0% to the last trading price, a decrease of 1.1% compared to the prior quarter.

What to watch

Despite growing concern around a possible slowdown in the US economy, equity markets have remained resilient as major US indices remain near record highs and GDP growth continues to expand. With the Federal Reserve cutting interest rates twice during the third quarter, their future policy decisions will weigh heavily on the markets as the Q4’19 market anticipates the possibility of additional rate decreases next year. Overseas, the European Central Bank restarted quantitative easing and cut rates further into negative territory which may push more investors and more capital to the US. Finally, UK action on Brexit is approaching the latest deadline with an unresolved strategy further increasing market uncertainty and volatility.

The IPO market should continue to be relatively active so long as market performance remains robust with a reasonably strong pipeline of companies preparing to go public. The Technology sector will likely continue to deliver large, high-profile IPOs despite wide press coverage of some recent IPO postponements. However, concern is increasing around the potential IPO window closing, and unless the US has a stronger Q4 than in any of the past 5 years, 2019 will come in below 2018’s strong haul of 214 IPOs. In preparation, companies have been ramping up their IPO readiness work in order to access the public markets. Overall, with an increasing level of investable cash on hand and declining interest rates, IPOs should continue to realize strong demand as investors seek outsized returns relative to the major indices.

Please note: IPOs with deal values that are less than $25mm, best efforts offerings, oil and gas royalty trusts, business development companies, pricing on OTC Bulletin Board and OTC Pink Sheets are excluded from the above narrative.

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David Ethridge

US IPO Services Leader, PwC US

Daniel Klausner

Capital Markets Advisory Leader, Deals, PwC US

Derek Thomson

Capital Markets Research Leader, Deals, PwC US

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