Secondary offers provide little solace for banks

By Phil Wahba

NEW YORK, Aug 29 (Reuters) - With the initial public offerings market enduring its worst slowdown in years, investment banks might be hoping to find some relief in the stronger market for secondary stock offerings. They may be disappointed.

Certainly, the secondary market is on track for one of its biggest years ever, but it is the banks themselves that have stacked that deck with some massive recapitalizations of their own. And that means no underwriting fees as the banks take on the risk themselves.

More ominously, the stream of IPOs that have traditionally fed the secondary market is nearly dry, with little sign of a pickup anytime soon.

"A better performing IPO market only puts the market in a better position to absorb more follow-on issues," said Tom Fox, head of global capital markets for the Americas at UBS Investment Bank.

Secondary offerings, also known as follow-ons, are sales by a company of stock already trading on an exchange.

According to Thomson Reuters data, so far this year, secondary offerings have raised $101.4 billion in the United States, already nearly matching the totals for each of the past four years. But the number of issues, 199 deals, is well off from the more typical 500 issues of recent years.

Behind that performance was a spate of enormous issues by distressed banks trying to recapitalize during the credit crisis.

For example, in April, Citigroup Inc (C.N: Quote, Profile, Research, Stock Buzz) raised $4.5 billion and Wachovia Corp (WB.N: Quote, Profile, Research, Stock Buzz) $7 billion, while Merrill Lynch & Co Inc (MER.N: Quote, Profile, Research, Stock Buzz) raised $8.5 billion last month. Investment banks do not get any fees from such deals because they are self-issued, said Fox.

In reality, excluding these mammoth deals, the secondary market is off by about 40 percent, according to Fox.

The number of IPOs is down about three quarters this year from the same period last year to just 28, while proceeds, excluding Visa Inc's (V.N: Quote, Profile, Research, Stock Buzz) massive $18 billion IPO in March, are down more than 75 percent. This is important because a pick-up in follow-ons is not likely to come at least until several months after the IPO market recovers strength.

"At this point last year, the secondaries' calendar was populated in large part by companies that had had a successful IPO in the prior 6 to 12 months," said Francis Gaskins of IPO Desktop, who estimates up to half of all follow-ons in a normal year fit that profile.

This is sometimes because companies doing IPOs are seeking to grow rapidly and often quickly burn through IPO proceeds, much of which may also have gone to the company's initial investors. Those investors also often seek to cash out part of their holdings if the value of the company has risen after listing.

To be sure, despite the slow markets, a few companies have managed to successfully go public in the past year and follow that up with large secondaries.

"It's not robust, but it's surprisingly active in those sectors in which the market has put a premium: energy, natural resources, some tech around alternative energies," said Fox.

According to research by University of Florida at Gainesville finance professor Jay Ritter, between 1996 and 2007, companies that issued follow-ons had an average return of 108 percent in the year leading up to the issue.

"Companies usually do a follow-on after a stock run-up," said Ritter.

For example mobile cardiac telemetry supplier CardioNet Inc (BEAT.O: Quote, Profile, Research, Stock Buzz), whose shares have surged about 69 percent since its $83 million IPO in March, raised another $133 million in July. And Genoptix Inc (GXDX.O: Quote, Profile, Research, Stock Buzz), a provider of diagnostic and biopharmaceutical services that went public in October in a $85 million IPO, issued another $61.2 million share sale in February. Its shares have more than doubled since their debut.

But with the markets unsteady, few other newly public companies have been able to garner the returns that would make the markets receptive to follow-ons.

Only about a quarter of companies that have done an IPO this year have managed double-digit returns.

"If an IPO has fallen out of bed, it's much harder to do a secondary," Gaskins said.