Private Market Valuations Exceed IPO Valuations: Is This a Bubble??

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private-company-valuations-temp-112614-4Brokerdealer.com blog update inspired by 2 Jan WSJ column by business news journalist Liam Denning

For broker-dealers, investment bankers, and those following the investment strategies of private equity and venture capital firms, this is one of the better plain-speak summaries profiling the current climate of investing in private companies. The recent outsized valuations during 2014 have caused greybeard investors to scratch their heads…as the outsized pre-IPO valuations are counter-intuitive to traditional investment analysis of private companies, particularly given the assortment of “lower-than-last-private round” post IPO valuations that these same companies are being given in the public marketplace.

For private companies that wish to network with deep-pocketed angel and/or institutional investors, Brokerdealer.com provides an investor forum that connects start-up entrepreneurs with those who can see the forest through the trees.

Below please find excerpts of Liam Denning’s reporting..

Buying a stock, with all its attendant filings, analyst coverage and forecasts, still can be a gamble. So imagine getting excited about one isolated price signal on a private company with all the disclosure of the Air Force’s Area 51.

Yet that is what is setting pulses racing as 2015 dawns. Xiaomi, a closely held Chinese smartphone maker, recently raised $1.1 billion at an implied valuation of more than $46 billion. That puts it ahead of Uber Technologies, the unlisted ride-booking application developer that got new funding in December valuing it at $41 billion. Both numbers also are higher than the market capitalizations of roughly three-quarters of the S&P 500’s members.

In theory, such startup valuations matter little to anyone but a relative handful of founders, employees and venture capitalists. The average investor doesn’t get a seat at the table or more than an occasional glimpse of what even is on the table.

In practice, news of such amazing, and seemingly unobtainable, investments stoke bullish sentiment, leaving individual investors potentially vulnerable.
Venture capitalists and other insiders usually do extensive due diligence before committing to the likes of Uber. But their basis for valuation differs from the approach of mainstream investors buying stocks, with venture funds also considering exit timelines, the cash needs of a startup to keep expanding and maintaining incentives for management and owners as equity stakes get parceled out. They also can, of course, just get things wrong.

Ordinary investors also must consider the wider context. In a world thirsting for yield amid ultralow interest rates, money has sought riskier corners of the market. Almost $24 billion of new commitments flowed to U.S. venture funds in the first nine months of 2014, according to the latest data from Thomson Reuters and the National Venture Capital Association. That is more than in each of the preceding five years in their entirety and sets up 2014 to have been the biggest year for new venture money since before the financial crisis.

This raises the risk of dollars being deployed into questionable businesses, which then eventually find their way into the wider market via initial public offerings, which are priced off the back of those high startup valuations.

For the entire WSJ story, please click here.

Private Equity Firms Now Face Up To Fee Schemes

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double dipBrokerdealer.com blog update courtesy of Mike Spector and Mark Maremont of the Wall Street Journal.

For years, Private Equity firms have doubled-dipped by receiving management fees from their institutional investors, and at the same time, have pocketed hundreds of millions of separate fees from the companies they have acquired on behalf of those same institutional investors. For the first time, these firms are being pressured by investors, and in some cases, federal regulators to stop the practice of double dipping or face further scrutiny.

The investment firms usually collect the fees from companies they buy for providing services such as consulting, serving as directors and helping them make their own acquisitions. Instead of keeping some of the money, the buyout firms, in new funds they are raising, will now pass the fees on in full to investors in the funds.

The payouts being reimbursed, known in the industry as transaction and monitoring fees, have provided many private-equity firms with a steady income stream augmenting their share of investment gains on deals, which remain the key source of profits from their buyout funds. Private-equity firms buy companies using a combination of cash raised from investors and borrowed money with the aim of improving the companies’ value and selling for a profit a few years down the line.

Buyout firms often receive transaction fees from a company after completing a takeover and for other deal activities, and monitoring fees for consulting and other work while holding the investment.

The turnabout by managers including Blackstone Group LP, KKR & Co. and TPG represents a significant concession in the face of persistent clamor for the private-equity industry to do a better job sharing and disclosing their fees.

The decision by private-equity firms to essentially reimburse investors with payments that can amount to tens of millions of dollars or more, sometimes on just one transaction, shows the increased influence wielded by investors such as public pension funds that historically accepted terms buyout firms proffered.

For Spector and Maremont’s entire Wall Street Journal article, click here.

BrokerDealers Help Mint Billionaires in 2014; Greed Is Good, Funding is Fun

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startup valuationsBrokerdealer.com blog update courtesy of extracts from 29 Dec edition of the Wall Street Journal, with reporting by Evelyn M. Rusli

As brokerdealers, investment bankers, institutional investors and entrepreneurs “close the books” on 2014, all will agree this has been a remarkable year in which “billion dollar valuations” have seemingly been the norm. Most notably, technological start-ups have enjoyed increasing valuations with each subsequent round of financing from private equity and venture capital firms, albeit many financial industry professionals are wondering whether those valuations can carry over when these private companies embark on initial public offerings (IPOs).

While “Wall Street” protagonist Gordon Gekko coined the phrase “Greed is Good!,” the Broker-Dealers mantra for 2014 was “Funding is Fun!”

Below please find highlights of the WSJ article.

Chinese smartphone maker Xiaomi Corp. is now officially the world’s most valuable tech startup, worth $46 billion—the exclamation point on a year of extraordinary valuations. Continue reading →

New IPO makes Brokerdealers Hungrier for 2015

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timthumbBrokerdealer.com blog update courtesy of Forbes.

Brokerdealers everywhere have rejoiced, Shake Shack, a newer chain restaurant, recently applied for an IPO and set to go public in 2015. Shake Shack is known for its fresh cut fires, 100% all beef burgers and hot dogs, and most of all its delicious shakes. The chain has been growing ever since its opening in New York City in 2000 and now has 63  locations open  worldwide.

Shake Shack, the New York-based burger chain created by famous restaurateur Danny Meyer, is set to go public in 2015, after filing for an IPO Monday.

The chain, which plans to list on the New York Stock Exchange under the symbol “SHAK,” details a rapid growth effort that has seen an increase from a single shack in Manhattan’s Madison Square Park to 63 locations worldwide today (about half are owned by the company, with the remainder operated by licensees.”

Restaurant concepts have proven a mixed bag in the market, as investors pore over growth prospects looking for chains that could prove as lucrative as Chipotle Mexican Grill CMG -1.73%, which has returned more than 1500% since being spun out of McDonald’s MCD -0.87% in 2006.

IPOs from companies like Noodles & Co, Potbelly and Zoe’s Kitchen were greeted with immense demand, though both stocks have taken their share of hits since debuting. More recently, burger chain Habit Restaurants has surged more than 80% since its mid-November IPO.

At a time when many legacy restaurant operators are struggling to find growth — McDonald’s certainly among them — younger chains with smaller footprints and more runway for expansion are proving attractive.

Shake Shack reported $140 million in system-wide sales for its 2013 fiscal year, up from $81 million the prior year, with 56% of revenue from its domestic, company-owned locations. Total revenue, which only includes licensing revenue from non-owned locations, was $83.8 million in 2013, up 41% from the prior year. Net income declined to $3.5 million, from $4.4 million the year before, due to a sharp increase in expenses, largely attributable to higher food costs and costs associated with opening new locations.

Growth is likely to come both abroad and at home. Aside from New York, with 15 locations, no U.S. state has more than four Shake Shacks.

“Fast-growing restaurant concepts are still hot,” says Paul Bard of IPO research firm Renaissance Capital. “Habit opened up 100% so comparable companies will see that as an opportunity and there’s a whole crop of fast-casual burger chains out there.”

Bard also points to chicken chain Bojangles and Focus Brands, a franchiser of Cinnabon and Carvel, as potential names to watch for on the 2015 IPO market as investors continue to look for growth in the consumer space.

The U.S. economy’s slow recovery and improved consumer spending is certainly a help to restaurants, but Shake Shack’s filing notes that the company’s initial expansion occurred in a far more difficult environment.

“We’ve never believed that Shake Shack only thrives in a down economy, but growing from one to 15 Shacks smack dab in the heart of the recession told us that we also don’t need a robust economy to build our business,” Meyer and CEO Randy Garutti wrote in a letter to prospective shareholders.

Meyer is listed among the shareholders who control at least 5% of Shake Shack’s shares, along with affiliates of private equity firm Leonard Green, Select Equity Group, Alliance Consumer Growth, and Jeff Flug, president of Union Square Hospitality Group, the parent company of Meyer’s other restaurant ventures, and a Shake Shack board member.

The language in the Shake Shack filing also reveals the controlling hand Meyer will maintain at the company post-IPO. He and his affiliates will be entitled to nominate a certain number of directors — five as long as he maintains 50% of his post-offering holdings, and sliding down from there — and must grant approval for a variety of corporate actions, including a sale of the company, firing or hiring of a new CEO or a change in board size, so long as the group keeps 10% of its post-IPO shares.

 

For the original Forbes article, click here.

 

Industry Regulators Block Disclosure of Bad Actor BrokerDealers; BrokerCheck System is Broken

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California, Nevada , Arizona, Florida, New York & NJ have highest number of bad apple brokers.

BrokerDealer.com blog update courtesy of extract from Dec 26 WSJ story by Jean Eaglesham and Rob Barry …

brokercheckIn what can best be described as a Faustian tale taken from Alice in Wonderland, it should be no wonder that bad apple brokers continue to prey on investors, with no thanks to the archaic system overseen by financial industry regulators, most notably the “self-regulated” Financial Industry Regulatory Authority aka Finra. WSJ reporters Jean Eaglesham and Rob Barry provide insight into the dumb data system employed by the industry’s watchdog:

Wall Street’s own national watchdog doesn’t make public all the regulatory red flags it has about brokers, prompting calls from state regulators for more expansive disclosure.

Investors checking disciplinary records from the Financial Industry Regulatory Authority, or Finra, can see that in Bennett Broad ’s 35-year career as a stockbroker, he has faced 25 customer complaints involving alleged trading abuses, and that 15 ended in payouts to clients.

What they won’t see is that a former employer, UBS AG , launched an internal investigation into Mr. Broad’s business practices back in 2003 and then, according to state regulators, “permitted” him “to resign.” At least eight of his 25 complaints involved conduct after that investigation.

Finra, an industry-funded overseer of brokers, encourages investors to check its BrokerCheck Web page to look for regulatory red flags about individual brokers, including complaints, regulatory actions, terminations for cause and personal bankruptcies. Mr. Broad’s BrokerCheck reveals neither the UBS investigation nor his resignation—even though they show up on his state regulatory record.

A Wall Street Journal examination of federal and state regulatory data revealed that a wealth of information about brokers is reported to the national regulator but not made public by it. The Journal found at least 38,400 brokers have regulatory or financial red flags that appear only on state records, which in most states aren’t available without contacting state regulators. Of those, at least 19,000 had completely clean BrokerCheck records. A comprehensive database of brokerdealers registered in the US and major countries throughout the globe is available here.

California, Nevada , Arizona, Florida, New York & NJ have highest number of bad actor brokers.

The Journal’s analysis included 6,527 registered stockbrokers with offices in Fort Lauderdale and Boca Raton, Fla., highlighted on the adjacent map. Of those, 342, or 5.2%, reported three or more red flags on their disciplinary records. For every 10 brokers in this area, there were 4.9 disclosures, 126% higher than the rate among all brokers in the Journal’s data.

Brokers with troubled regulatory records were often found in areas with wealthy, elderly populations. In this hot spot, the share of households headed by people aged 65 and up with incomes in excess of $100,000 was about 39% greater than the nation as a whole.

For the entire article from WSJ, please click here.