No-Go IPOs

If there’s a sexy part of Wall Street, it’s the IPO market. The capital markets’ version of a coming-out party, an initial public offering introduces a company and its management team to a worldwide audience. Just think of the fanfare and excitement that surrounded the initial public offering of Google in 2004.

Today there is no IPO market. It’s all but comatose. Until a single transaction—the initial public offering of Phoenix-based Grand Canyon Education in late November, the U.S. IPO market had been stuck in its longest drought since the 1970s, according to the Web site ipohome.com. (Grand Canyon went public on November 11. The most recent IPO prior to that was the August 8 IPO of San Antonio–based Rackspace.) The Grand Canyon IPO has been anything but a roaring success. The projected price was cut twice in the days before the actual offering, and the stock promptly traded down in the aftermarket. As of this writing, 2008 was on track to record the lowest number of IPOs in a single year in the past decade. So far, only 43 IPOs have come to fruition this year versus 272 in 2007, according to IPOhome.com.

Investment bankers who specialize in IPOs like to speak in metaphors. Today, they say the IPO window is slammed shut. What will it take for the window to open, even a small crack?

“What the markets crave is stability—which we don’t have today,” says Rick Hartfiel, director of investment banking at Craig-Hallum Capital Group, LLC, a Minneapolis securities firm. Once there’s stability, Hartfiel says, deals can get done, albeit after valuations of companies have been recalibrated downwards.

David Dalvey says that one or two companies will have to break the ice. “The first few IPOs will need to be larger, established companies with a history of profitability and revenue growth, and will need to be priced at reasonable valuations to lure institutional investors back in the game,” he says. Dalvey, currently a partner at the Minneapolis offices of Brightstone Capital, also does private equity advisory work for companies seeking institutional capital. He’s also worked in investment banking (at R. J. Steichen) and venture capital for more than two decades.

Hartfiel echoes Dalvey’s comments: “The market needs to see really good companies, priced low, whose shares then trade up in the aftermarket.” The ice breakers will have to be “bulletproof”—companies with no obvious flaws, Hartfiel says.

Momentum Needed

The IPO market thrives on momentum. A successful transaction or two will beget more successful transactions.

“It’s all about the return to investors,” says John Feltl of Feltl and Company, a Minneapolis brokerage firm. Feltl notes that the stock prices for many of the earlier IPOs in the class of 2008 had already traded down even before the drought that began in August. For the IPO market to get healthy again, the stocks of these companies must recover, he says.