Capital Markets Soared To Record Heights To Start 2021

By Tom Zanki
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Law360 (July 2, 2021, 10:58 AM EDT) -- Capital markets practices guided a historic volume of deals in the year's first half, helping companies raise record levels of equity through multiple routes to public markets, while friendly debt-raising conditions enabled businesses to stockpile cash for acquisitions.

Here is a roundup of capital markets highlights for the first six months of 2021 and what to expect for the rest of the year. 

IPOs Busier Than Ever

The initial public offerings market generated robust activity for lawyers as 537 issuers — a figure that includes operating businesses and special purpose acquisition companies — raised $181 billion through June 25, according to data provider Dealogic. The total marked the most for any first half of a year since Dealogic began tracking data in 1995.

IPOs began booming in the latter half of 2020, aided by government interventions designed to rescue financial markets from uncertainty caused by the coronavirus pandemic. Companies, in turn, seized the opportunity to raise fresh capital and go public while investors were receptive.

The torrid pace continued through the first six months of 2021. Many IPO prospects benefited from strong 2020 financial results, especially technology firms whose internet and remote services were relied upon by businesses and consumers adapting to the pandemic.

"The first half of the year picked up where 2020 left off and maybe even accelerated a bit," Skadden Arps Slate Meagher & Flom LLP partner David Goldschmidt said.

Several companies made splashes in early 2021 with huge IPOs that raised well beyond $1 billion, led by a $4.6 billion IPO by Korean e-commerce giant Coupang Inc., plus dating app Bumble Inc. and mobile gaming company AppLovin Corp. netted $2 billion or more each.

After some market turbulence slowed the pace of new offerings in May, IPOs roared back in June to generate the busiest single month since August 2000, according to research firm Renaissance Capital. Chinese ride-hailing giant Didi Global Inc. ended June with a bang after raising a $4.4 billion IPO.

Technology and life sciences startups mostly dominate the IPO pipeline, but the scope of industries going public has recently expanded. Consumer-oriented companies are joining the fray, as evidenced by recent IPOs from Mister Car Wash Inc. and doughnut maker Krispy Kreme Inc.

The pipeline for the second half has also begun to swell. Personal finance site NerdWallet Inc., trendy salad chain Sweetgreen Inc., sustainable footwear maker Allbirds Inc. and others have reportedly filed IPOs confidentially with regulators. Financial app Robinhood Markets Inc. also publicly filed plans on Thursday, setting up one of the year's most closely watched IPOs.

Additional companies made their filings public in June, meaning they are likely to price in July assuming a typical IPO schedule. Plus, capital markets lawyers say more companies have begun developing plans to go public before the end of 2021. Assuming a customary summer slowdown in August, another round of new issuances could accelerate after Labor Day.

"There are still a significant number of large companies, both well-known and not so well-known, that will go public starting this year and into the beginning of next year," Paul Hastings LLP partner Christopher Austin said.

Risks are also on the horizon as the IPO market can be sensitive to political or macroeconomic forces.

Foley & Lardner LLP partner Louis Lehot said it's worth watching whether Congress raises capital gains taxes or if rising inflation triggers interest rate hikes. He also noted that increased regulation of technology giants, a priority among many Democrats and Republicans, could spook investors.

But absent any market-jarring events, "the pipeline for the second half is very robust with some great companies just getting ready to come out," Lehot said. "I absolutely think that the IPO market is going to continue in full force in the second half." 

SPAC Surge Settles Down

The boom in special purpose acquisition companies, or SPACs, took the capital markets and mergers world by storm in 2020. These alternate funding vehicles benefited from unusual market conditions generated by the pandemic. Proponents say SPACs can provide target companies another way to go public minus pricing uncertainties inherent with a traditional IPO, but the offering type has calmed in recent months.

SPACs, also known as blank-check companies, are shell entities that raise money through an IPO to acquire a private company, typically within two years, and take it public. The result is a merger of sorts in which the SPAC hands its stock listing to the target company.

The boom of 2020 carried into the first quarter of this year when 298 blank-check companies completed IPOs in the first three months of 2021 — more than three a day. The breakneck pace finally cooled in March amid signs of investor fatigue and regulatory pushback.

The U.S. Securities and Exchange Commission issued a spate of warnings about risks involving SPACs, some of which are backed by celebrities, urging the public to be wary of hype. The SEC has also warned investors that the quality of SPAC deals could suffer as the market becomes saturated with too many acquirers hunting for a dwindling number of targets.

The SEC in April then focused on SPAC accounting practices, saying that warrants may need to be reclassified as debt rather than equity, as traditionally assumed, causing many companies to review their public filings to ensure that their financial statements are accurate. Warrants are a key feature of SPACs in that they allow investors to obtain additional shares at a preset price.

Additionally, the securities watchdog said that SPACs should not assume they won't be held liable if they tout misleading forward-looking projections involving their acquisition targets. The ability to discuss financial projections, something traditional IPOs typically avoid, can appeal to younger companies with little operating history, which have made up a big chunk of SPAC targets.

The SPAC market is adapting to the more watchful climate.

McDermott Will & Emery LLP partner Tom Conaghan said SPAC teams are now more carefully crafting disclosures and discussing financial projections. Plus, investor litigation against blank-check mergers are rising, causing a spike in directors and officers liability insurance — factors that Conaghan said have made the SPAC market "less welcoming" lately.

But SPACs haven't ground to a halt by any stretch. Renaissance Capital reports that 50 new blank-check companies raised $9.3 billion in the second quarter of 2021 — a big drop compared with dizzying first-quarter levels but relatively high on a historical basis. Plus, prior SPACs continue to land merger targets, creating additional avenues for companies to go public.

"There's a huge number of SPAC out there that are still looking for high-quality target companies," Conaghan said. "And almost every company that we're working with that's working on a [traditional] IPO is also dealing with bids from SPACs."

Direct Listings Carve a Bigger Niche

Direct listings are gaining traction as another IPO alternative among select companies.

Direct listings historically enabled a company to go public by simply listing existing shares on an exchange, but they could not raise money by selling new stock like in a regular IPO. Cash-rich startups might pursue this alternative to save on underwriting fees or to allow their early shareholders to sell their stock without lockup periods typically associated with a traditional IPO.

Music streamer Spotify in 2018 was the first large private company to conduct a direct listing and successors gradually followed. The first half of 2021 generated four notable direct listings: video online gaming platform Roblox Corp., website hosting service Squarespace Inc., cryptocurrency exchange Coinbase Global Inc. and job marketplace Ziprecruiter Inc.

More direct listings could be on the way. The SEC recently approved proposals by the New York Stock Exchange and Nasdaq to allow companies to also issue new shares in a direct listing, which would allow companies to raise fresh capital in the process. The ability to raise new money could make direct listings more appealing, although companies would have to manage their stock sales without traditional IPO underwriters. None have taken up this new option.

Capital markets lawyers note that the IPO underwriters are deemed to provide a valuable service in that they vet companies and market their shares to new investors, which can help less well-known companies develop an investor base needed to thrive in public markets. Underwriters can also deploy mechanisms to stabilize trading in the event of a rocky debut.

Several capital markets lawyers said direct listings can work for companies with broad name recognition and a deep investor base, but they expect most will prefer an underwritten offering.

"A direct listing tends to make more sense for larger, more established issuers compared to some of the smaller issuers that will be tapping public markets," Simpson Thacher & Bartlett LLP partner Roxane Reardon said.

Companies Raise Debt in Droves

While IPOs and SPACs generated headlines, companies continued to raise vast capital through debt in the first half of 2021, aided by ultra-low interest rates and government stimulus measures.

High-yield financing, which refers to debt issued by companies with checkered credit, soared to records in the first half of 2021. Some 264 high-yield companies have raised more than $205 billion year to date, according to Dealogic, more than any other six-month period on record.

High-yield companies pay investors higher interest to offset a greater risk of default. But with interest rates remaining at historic lows, companies have seized the opportunity to borrow money more cheaply. Proceeds are typically used to refinance older debt that was sold at higher rates or to stockpile cash, which can better position companies to pursue acquisitions.

Stripe Inc. raised $2 billion in high-yield debt in May, one of the year's largest issuances. The payment technology company listed acquisitions as one potential use of that money.

"We're seeing a robust M&A world right now, and we're seeing low interest rates," Skadden's Goldschmidt said. "So you'll see high-yield and acquisition financing out there."

Convertible debt, which are hybrid instruments that allow companies to sell debt upfront that is convertible to stock if shares hit a certain price, also provided companies with ample financing in the past six months. Some 107 companies have raised more than $60 billion in convertible bonds year to date, which is similar to the busy pace recorded in the first half of 2020.

Convertible notes typically pay lower interest than ordinary bonds because investors are paying for the added benefit of stock conversion rights. Several convertible bonds issued in the first half of 2021 paid zero or near-zero interest, making them a low-cost source of capital.

Coinbase was among the companies joining the convertible stampede, raising $1.25 billion in May on convertible notes that paid 0.5%. The bond sale provided the crypto trading exchange a fresh injection of capital shortly after its direct listing, which the company can use to expand its business.

"There are more companies that are looking at growing through acquisitions and convertibles are a nice way to do that," Paul Hastings' Austin said.

The record-setting pace of debt sales inevitably invites questions over how long the rally will last. For the time being at least, companies may not be finished borrowing. Reardon said that based on her firm's pipeline and conversations with investment bankers, 2021 will likely remain active.

"There does not seem to be any easing at all," Reardon said. "Every person is fully engaged at the maximum levels and looking forward to a very busy second half."

--Editing by Orlando Lorenzo and Alyssa Miller.

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