The Rise Of Rights Offerings
April 9, 2009
Cash constrained hedge funds that once drove the
buying in the private investment in public equity (PIPE)
market are increasingly turning away from such deals. Instead,
many funds are increasingly considering rights offerings.
“The PIPE market is in disarray,” says Fred
Johnson, director and head of confidential equity
offerings at William Blair & Co.
“Small-cap and mid-cap companies are using rights offerings
as a tool. It’s serving as a temporary replacement to the
Indeed, according to recent PIPE market
league tables published by Sagient Research,
$3.9 billion was raised in 180 transactions in the PIPE market
in the first quarter. In the same period a year ago, $43.4
billion was raised through 266 deals.
“Historically, hedge funds have been the
biggest investors into PIPEs. A unique thing we saw in the
first quarter is hedge funds are shying away from PIPES and
are not as prevalent as other investors in the PIPE market,”
says Robert Kyle, executive vice president of
This is due in part to the fact that
companies that pursue PIPE deals are often illiquid, according
to Johnson. “The typical profile of a would-be PIPE issuer
does not currently appeal to hedge funds and mutual funds
reeling from redemptions. If they enter into a position there
must be liquidity,” he says.
Enter rights offerings, which according to Steven
Siesser, chairman of Lowenstein Sandler’s
specialty finance group, can be a cross between a PIPE and a
registered direct offering. A key difference, however, is that
a rights offering can be structured so that it’s not subject
to a stock exchange’s 20% shareholder approval rule.
Nonetheless, Siesser says corporate boards of directors are
increasingly embracing rights offerings. “Boards of
directors are saying ‘if we are going to raise capital at
these depressed levels, we want to give existing shareholders
a chance to participate, too,’” says Siesser.
Investment banking fees associated with
these deals are modest, with bankers routinely earning several
hundred thousand dollars per offering. “Lesser fees that may
apply to rights offerings do not dictate what’s being done
for a client,” says Johnson. The reason for lower fees is
due to the fact that a rights offering is designed for
existing investors and provides them an opportunity to acquire
additional shares at a discount to current valuations without
diluting their existing stock. Since the issuer taps into an
existing shareholder base, bankers do not need to market the
deal to new investors.
But investment bankers continue to market
these deals and are increasingly targeting hedge funds as a
backstop investor or standby purchaser, which is an
institutional investor that promises to acquire all of the
outstanding shares in a rights offering that are not exercised
by shareholders. In return for being a backstop, the firm
receives a fee from the issuer. The fees associated with a
rights offering rise when there is a backstop, earning
investment bankers between 4%-7% of the deal.
Currently there are about 10 rights
offerings in registration with the Securities &
Exchange Commission, and many of the deals are
expected to come to market in the next 30 days.
“Many PIPE hedge funds have stopped
investing and those who remain are more insistent on
liquidity, which a rights offering gives them. The hedge funds
that are around, together with private equity and venture
capital funds, are the primary candidates who would backstop
these deals,” says Siesser.
Meanwhile, as hedge funds consider rights
offerings, the private equity community has been stepping up
to the plate. Deltek Inc., a software
company, filed for a $60 million rights offering on April 3.
The deal is scheduled for April 14. New Mountain
Partners II, New Mountain Affiliated Investor
Partners - a trio of private equity firms
that are also Deltek’s biggest shareholders - have committed
to participating in the offering and to exercise both their
basic subscription and over-subscription privileges.
United America Indemnity, a
insurance and reinsurance company, recently announced a $100
million rights offering. The firm entered into a backstop
agreement with an affiliate of Fox Paine & Co.,
its largest shareholder, for the entire amount of the deal.
Fox Paine will earn a $7 million fee from United America
Indemnity, sources say.
Siesser is advising four clients on rights
offering transactions, outpacing the amount of such deals he's
seen over the past 10 years. “We’re still getting calls to
do PIPEs and registered direct deals, but we’re getting as
many if not more calls for rights offerings,” he says.
The companies on file with the SEC for a
rights deal are not necessarily turning to these offerings as
a last resort. “Some are companies not whose backs are up
against the wall but ones that need capital. In some cases the
companies are under duress, but others are simply doing these
deals as an optimal way of raising non-debt - companies that
have a good use for proceeds,” says Johnson.
William Blair is involved in at least two of
these transactions. The market cap of each issuer falls below
$100 million, and neither company is looking to raise more
than $50 million. Johnson declined to name those companies,
but noted that rights offerings were once dominated by
companies in the financial services sector. In today’s
market environment, however, companies across various sectors
in need of capital — including retail, healthcare and
biotechnology — are turning to these deals.
“When rights offerings are popular, it’s
a testament to how bad the capital markets are. Except for the
benefit to existing investors, they are the dark horse of
capital raising alternatives,” says Siesser.