IPO.com 1-to-1: Brian Overstreet,
Wednesday, February 14, 2001
As the market
for secondary and follow-on offerings has nearly dried up in the
past few months, many publicly traded companies have turned to
private placements to raise the cash they need. Participation in
these so-called PIPE transactions (short for Private Investments in
Public Equities) is mostly limited to large institutional investors,
but all investors are affected by the resulting effects on the price
of the stocks involved. Thus, no one can afford to ignore this
Brian M. Overstreet is the president and co-founder
of DirectPlacement.com, an online investment bank located in
San Diego that specializes in PIPE transactions. Mr. Overstreet's
firm also owns and operates PlacementTracker.com
PlacementTracker.com, a provider of research and reporting on
the PIPE market. IPO.com spoke with Mr. Overstreet in February.
IPO.com: In case there's anyone reading this who doesn't
know, what is the PIPE market all about?
PIPE market is a market for public issuers, normally small-cap and
mid-cap issuers, to sell their securities privately to accredited or
institutional investors. Basically it uses an alternative to a
secondary public underwriting for these companies to raise capital.
I think there's a certain perception out there that these
kind of private equity transactions are usually done by companies
that are in a sort of a desperate state – that can't get money by
other means. Is that always the case, or are there real advantages
to doing it this way?
The quick answer is "No," it's not
always the case. The reason that perception exists is because the
media has in the past concentrated on some of the negative aspects
of the PIPE market, specifically the so-called "death spiral"
convertibles. However, in the year 2000, there was over $19 billion
raised in the PIPE market, and about 12% of that was done through
floating or "death spiral" convertibles. The rest were done as
traditional straight common-stock deals, or fixed-price
convertibles. And in a lot of those cases, they were done by
companies that wanted to raise the capital quickly and more cheaply
than going through a full-blown registered offering.
example: in the first quarter and even going into the second quarter
of last year, a lot of small-cap biotech companies ran up
dramatically from where they had been previously, and many of those
companies went out and raised substantial amounts of money through
common stock sales using PIPEs, rather than wade through an entire
secondary underwriting process. They recognized that their stock
prices might not be as high three months after they started the
[regsitration process]. They wanted to lock in a price, get money in
the bank, and be able to go on with their business.
said $19 billion was raised in the PIPE market in 2000. [By
comparison, the IPO market raised just over $100 billion in 1999 and
2000.] Has that been growing a lot, or was it just a typical figure?
No, actually it's been a dramatic growth pattern. When
we started tracking the data in 1995, there was only $1.5 or $1.6
billion total. In 1999 there was only about $7 billion. Then we had
this huge spike up to 2000, which I think had a lot to do with the
market in general running up, as well as the fact that a lot of
these bigger issuers started to recognize the PIPE market as a
realistic alternative to a secondary underwriting. So we're not
anticipating as dramatic a year as we had last year, but we think
we're going to continue on the same pace as the year prior to last
So the downturn that has just about shut down the
IPO market recently, has not really had the same kind of effect on
the private equities market?
Not really. When we look at
this January vs. last January, we've basically been cut in half. But
that said, we're still clicking along at a pretty rapid pace. There
was $680+ million raised in January alone, outpacing IPOs and
secondaries. I think we're on track to do that again in February. So
one thing to keep in mind when comparing it to the IPO and secondary
market (and the great thing about the PIPE market in general) is
that you can always get a PIPE deal done. The only thing is, what
kind of terms are going to be negotiated? You're not necessarily
dependant on the general market or how an investment banker wants to
price you. You either negotiate directly with the investor, or maybe
you negotiate through a broker. But at the end of the day if the
market is sour, the investment group can come back and say, "Hey, we
want more warrants or we want a lower price," whatever it will be.
If the company is open to that, you're going to get a deal done.
You mentioned the "death spiral" private placements
earlier. What are the red flags investors should look for when their
companies do these kinds of private placements?
the important thing to keep in mind is that the "death spiral" or
floating-rate convertible is not an evil instrument. It is not going
to cause the mass destruction that's been advertised by the media.
What happens with the death spiral, though, is that if the company
is having some fundamental problems, and the stock price comes down
even just a little bit, the death spiral is going to amplify that
effect. You're going to have a situation where the investor has the
ability to convert and sell [stock] at increasingly lower prices,
based on where the market is. And what happens eventually is that
you're going to have the investor converting a part of the security
and getting a bunch of stock which they then have to sell into the
market, further depressing the market, and when they go to convert
again, they're going to get even more shares at a lower price. And
that's why you get that so-called "death spiral" effect, where it's
just a circular pattern going lower and lower.
our database, when we look at the number of [death-spiral] deals
that get done, a significant percentage of them have not resulted in
the stock prices getting killed. It's really the situations where
there is some underlying fundamental problem with the company, where
their stock price probably would have gone down a little bit anyway,
and now you have this overhang where you're going to get hurt even
So most of the companies that use this method have
no other choice. They might even go out of business without this
Well, the "death spiral" has almost become a
self-fulfilling prophecy at this point, because there are people out
there that look for companies doing this type of financing, and they
go out and aggressively short the stocks. But frankly, I would argue
that it's not a financing of last resort necessarily. There are some
positives to doing this type of deal, including the fact that most
of them involve some initial premium to market conversion price, so
if the stock runs up (as it should after they raise money and use it
effectively), the investors are giving up a portion of the upside,
which they're not going to do in a common-stock deal. The problem
only happens when the company doesn't use the money wisely and the
stock doesn't go up.
You mentioned earlier that
accredited investors can get into this market. Is this something
that accredited investors should be looking into?
[laughs], my advice is that there are 5000 or more institutional
investors that have participated in these deals in the past, and the
ones who are successful at the PIPE market are the ones who can
build a portfolio of any number of deals at a time. I would not
necessarily advise individual investors to be jumping into this
marketplace on a one-off basis. I think you're better off seeking
out the investment firms that specialize in these types of these
deals, and let a professional deal with your money in this market.
Finally, are you noticing any interesting trends out
there? What do you expect to happen this year in the private
I think we'll see a trend that we've
been talking about recently, an increase on a percentage basis in
the number of structured deals, (in other words) "death spiral"
convertibles and structured equity lines, compared to last year,
just because of the fact that the market is so tough right now. And
it comes back to what I mentioned earlier, that a PIPE deal can
always get done. It's just going to be a function of what terms are
given up by the company. With the markets rather thin right now and
liquidity being tough to come by, the ability to raise capital is
going to be restricted to those who are willing to give it up for
more aggressive terms. So where 12% of deals were done in a
structured format last year, we think that number is going to
increase this year to something closer to 20%.
Dan McCarthy is Market Analyst