New York Times Business
The New York Times

May 10, 2001

Public Ventures Do Private Deals but Sometimes Are Left Bloodied

Dan Krauss for The New York Times
Peter Jackson, chief executive of the software company Intraware, said the company's stock plunged after a large private investment.

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Robert Burroughs for The New York Times
Steven B. Engle, chairman and chief executive of La Jolla Pharmaceutical, said private investments in public companies were an efficient way to raise money.

Locked in a costly lawsuit with a big pharmaceutical company, Igen International was within a few months of running out of cash earlier this year. And with biotechnology stocks falling, there seemed little chance of raising money by selling more shares to the public.

But Igen was helped in February by a little-known New York investment fund called Acqua Wellington, which agreed to purchase up to $60 million of new Igen shares over 28 months. Igen, a medical diagnostics company based in Gaithersburg, Md., has already taken advantage of the offer to raise $25 million.

Acqua Wellington has offered similar deals to about a dozen biotech companies in the 16 months it has been in existence, creating a stir among executives akin to that of suddenly discovering a rich uncle. And no wonder. With technology and biotech companies finding it nearly impossible now to sell new stock to the public, money offered by funds like Acqua Wellington is providing lifelines for many companies.

Such financings are known as private investments in public equities, or PIPE's. An investor or group of investors negotiates directly with a company to buy shares, often at a discount to the prevailing market price. While companies do not like selling their shares at a discount, getting some money is usually better than getting none.

"There's a recognition that PIPE's are going to be the only means of financing companies this year and maybe into next year," said Brian M. Overstreet, president of Inc., an investment bank that tracks such deals.

But there is a risk as well. Some desperate companies agree to such onerous terms that the financing can hurt more than help. These are called toxic or death- spiral financings and can result in severe dilution of the value of existing shares, hurting other shareholders. The mere announcement that a company has done such a deal can send its stock into a tailspin from which it may never recover.

Intraware Inc., a software company in Orinda, Calif., raised $25 million last June from Marshall Capital Management, the Citadel Investment Group and Promethean Asset Management. Intraware's stock, which traded above $21 the day before the deal was announced, plunged to near $5 in the next two months, though business issues beyond the financing contributed to the decline.

"We got valued down to the point where many people thought this ship might not make it," Peter Jackson, the chief executive, said. "Every day you're tortured by your investors and questioned by your employees."

This year, Intraware raised money from its original venture capital backer and several wealthy individuals to buy out the providers of the financing.

Only about 10 percent of PIPE's are toxic, Mr. Overstreet said. And some private placements of shares are structured to produce less dilution of existing shareholders than if shares were just sold on the open market. Private deals can also often be arranged more quickly than public stock offerings, without waiting for the Securities and Exchange Commission to approve a prospectus and without the road show needed to entice investors.

"How can you minimize management time spent running around the world to promote the stock?" asked Steven B. Engle, chairman and chief executive of La Jolla Pharmaceutical Company, which has raised nearly $80 million from three private placements in the last year and a half.

Net2000 Communications, a telecommunications service provider in Herndon, Va., raised $65 million last month in a private placement from existing institutional shareholders and some new ones. "By obtaining this funding we position ourselves to be one of the survivors," said Charlie Thomas, founder and chief executive, noting that several rivals have gone bankrupt.

To be sure, private financings are down substantially this year for the same reasons that public financings are down. Companies do not want to sell stock, publicly or privately, at today's low prices if they can avoid it, because it dilutes the holdings of the existing shareholders. And investors who bought stock in technology companies last year, even at discounted prices typical of private deals, lost money as the stocks plunged, so they are wary now.

"Anyone who has a choice doesn't want to finance in this environment and anyone who doesn't have a choice isn't that interesting to invest in," said Roger McNamee, a managing director of Silver Lake Partners in Menlo Park, Calif., which made private investments last year in companies like the Gartner Group, a consulting firm, and Cabletron Systems, a networking company.

In the first quarter of this year, $2.5 billion was committed to public companies in 184 PIPE's, down sharply from $8.4 billion in 385 PIPE's in the period a year earlier, according to, a Web site run by Still, the number of PIPE's in the first quarter exceeded the number of stock offerings by already public companies. And the decline in tech and biotech PIPE's was less pronounced than the decline in stock offerings by public tech and biotech companies.

PIPE's come in many varieties. In the simplest deals, an investor or group of investors purchases common stock. In other cases they buy debt or preferred stock that can be converted into common stock.

A danger for companies comes when the price at which the debt or preferred shares can be converted into common stock can be adjusted downward if the company's stock falls. Critics of such deals say such a structure can give the providers of the financing an incentive to try to lower the stock price so they can obtain more shares when they convert.

Existing investors fear the dilution caused by these deals. And short- sellers, who bet a stock will go down, flock to stocks of companies that do such deals. "It's like putting a bull's- eye on yourself to get your securities shorted in a big way," said John Nelson, portfolio manager for small- company stocks for the State of Wisconsin Investment Board, a pension fund for public employees that has warned companies it invests in to shun such deals.

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