Shifting landscape — Are you ready?

Global IPO trends report 2009

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Foreword
The severe economic downturn in 2008 sent worldwide IPO markets plummeting by over 60% in both deal numbers and funds raised since 2007. With assets being revalued globally, no IPO market was insulated from the Õnancial crisis. The spreading Õnancial contagion effectively shut down public markets worldwide bringing to an abrupt end the record-setting IPO boom years of 2006–07. Even so, some larger quality companies with strong business plans still managed to access the public markets with positive results. Despite faltering economies and sinking stock markets in 2008, the US and China led in IPO fundraising and deal numbers, respectively, while Saudi Arabia emerged as the third largest IPO market. Trends in IPO activity can be difÕcult to predict, especially in times of market volatility. Global markets will require a period of macroeconomic stability and conÕdence rebuilding for the window of IPO opportunity to reopen. Nevertheless, the 2009 IPO pipeline contains many quality companies from both developed and emerging markets, which continue to ready themselves to go public while waiting for market conditions to improve. After extensive interviews with some of the world’s top investment bank leaders and stock exchange leaders, Ernst & Young’s Global IPO trends report 2009 reviews the major developments in the worldwide IPO markets of 2008 and the Õrst quarter of 2009. As the sixth global IPO report produced by Ernst & Young, this review offers an in-depth examination of the key trends for companies planning an IPO today, as well as perspectives on IPO readiness. As Jim Turley, Chairman and CEO, Ernst & Young emphasizes in the report’s opening interview, “A crisis is a terrible thing to waste.” Indeed, many market-leading companies were formed during challenging economic times. Companies that undergo an effective IPO readiness transformation during these tough times will be the Õrst to go public when markets reopen. Early signs suggest a shift toward a new economic landscape favoring companies that offer innovative and productive solutions for the changing environment. We look forward to working with these pioneering companies in their transformation from a private entity to a public enterprise.

Global IPO Trends Report 2009

Contents
An interview with Jim Turley, Chairman and CEO, Ernst & Young From Õnancial crisis to opportunity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2

Perspectives on global IPO markets

Global
Global IPO activity has more than halved since 2007 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4 Interviews: Edward Law, Deutsche Bank . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10 Scott Cutler, NYSE Euronext . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14 Graphics: Top 20 IPOs by capital raised, 2008 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 16 Global IPO activity by region in 2008 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17

The US
US raises the most IPO funds despite faltering economy . . . . . . . . . . . . . . . . . . . . . . . . . 18 Interview: Lisa Carnoy, Bank of America Merrill Lynch . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 21

China
China launches the most IPOs despite stock market plunge. . . . . . . . . . . . . . . . . . . . . . . 24 Interviews: Rowena Chu, John Lydon, Heidi Yang, Deutsche Bank . . . . . . . . . . . . . . . . . . . . . . . 27

Europe
Emerging market companies still dominate London listings . . . . . . . . . . . . . . . . . . . . . . 29 Interview: George Magnus, UBS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 32

The Middle East
Saudi IPO markets Öourished until late 2008 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 34 Interview: Jeff Singer, NASDAQ-Dubai. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 37 Perspectives on IPO readiness Top 10 IPO readiness challenges, a Measures that matter global study. . . . . . . . . . . . . . 40 A panel discussion: post-IPO value creation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 42 The impact of MiFID on the European securities market . . . . . . . . . . . . . . . . . . . . . . . . . 45 Managing for success in turbulent times. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 47 DeÕnition of an IPO . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 48

1

From financial crisis to opportunity

An interview with Jim Turley, Chairman and CEO, Ernst & Young

For entrepreneurs, the industry shake-ups unleashed by the Õnancial crisis are an opportunity to pursue bold new ideas about how to thrive in the new environment

What do you think caused the current global Õnancial crisis? The current situation is really complex, and you’re never going to be able to point to just one cause. A lot of different circumstances overlapped and it’s that combination that has created the “perfect storm” that we see today. It is clear that at the heart of everything was too many lenders making some really bad loans. On top of that was many investors, Õnancial institutions and consumers using too much leverage and investing in Õnancial instruments that they didn’t understand well enough — often with little underwriting diligence and an unrealistic expectation that property prices would continue to rise indeÕnitely. If those were the causes, what do you think the implications are? Well, I think everyone can see that during 2008 the crisis had moved from just Õnance into the so-called “real” economy, and that’s hurting people around the world. Unemployment is high and going higher — not only in countries like the US and Britain, but everywhere. Around the globe, trade levels have plunged, consumer conÕdence is way down and stock markets have tumbled. And lending is still tight, with even rock-solid companies Õnding it difÕcult to borrow. In terms of IPOs, the market has slumped, too, with new listings dropping by more than half from 2007 to 2008, and capital raised dropping by something like two-thirds. So, 2009 looks to be the most difÕcult year for the global economy in decades. But set against all this doom and gloom I think we can take some comfort in the fact that business and governments around the globe have grasped the scale of the challenge

and are working together to get the global economy moving again. What can we do to get out the current situation? Of course that’s what everyone’s discussing these days. I think the best way for me to answer that is actually to say some things that we shouldn’t be doing. First, we can’t retrench into protectionism — in the US or anywhere. It might be human nature for leaders in some parts of the world to think, “Let’s protect our people by putting high walls around our country.” But it’s a bad idea. Globalization has done more to lift economies and lift people throughout the world than anything else. Protectionism would surely slow the recovery. Second, as we create new regulatory frameworks, we mustn’t stiÖe innovation and entrepreneurship — the engines of economic growth. Getting the balance right will be key — providing protection for investors, but also encouraging prudent risk-taking. Third, governments should not see state ownership as a long-term solution. While it has been important for governments to intervene to help stabilize several Õnancial institutions, over the long term, governments simply don’t allocate capital as efÕciently or effectively as free markets. I believe that any time of crisis is also a time of opportunity for anyone with a real entrepreneurial attitude — people or companies who can move quickly and focus on what they can gain instead of only what they could lose. Lastly, as you travel around and speak with policy-makers, corporate boards,

entrepreneurs and others, what are the key messages you try to leave them with? It’s been said that “a crisis is a terrible thing to waste,” and I tend to agree with that. A time of upheaval presents an opportunity for leaders, in government and the private sector, to do things that would be more difÕcult to do in more stable times. Reform and modernization of Õnancial regulation should be a top priority, with the goal of plugging the holes that have been exposed by the current Õnancial crisis. There should also be efforts to identify future vulnerabilities and to address them before problems erupt. And to do all this in a globally coordinated way. Governments should also reduce red tape and provide incentives for the formation of capital that will be invested in innovation and entrepreneurial initiatives to spur growth momentum around the globe. For entrepreneurs, the industry shake-ups unleashed by the Õnancial crisis are an opportunity to pursue bold new ideas about how to thrive in the new environment. Innovators in the public and private sectors can focus on overcoming looming challenges, such as climate change, with dynamic clean technologies and sensible policies. The Õnancial crisis has taken a heavy toll on billions of people throughout the world. As we all work to try to mitigate the damage from the current crisis, we should also be taking this opportunity to prevent the next crisis — ensuring that Õnancial markets around the world serve as engines of economic growth and opportunity and help to build a brighter tomorrow for future generations.

3

Perspectives on global IPO markets

Global IPO activity has more than halved since 2007
Key trends • Due to market turmoil, 2008 global IPO activity fell by 61% in deal numbers and 67% in funds raised • Emerging market companies sourced 15 of the 20 largest IPOs (including 4 each from China and Saudi Arabia) • The largest IPO was the US$19.7 billion Visa deal on the NYSE representing 21% of total capital raised globally • A widening gap in valuations expected by investors and companies makes pricing and executing deals challenging • The US raises the most IPO capital, China launches the most IPOs, Saudi Arabia hosts 4 of the world’s top 20 • The Õnancial, energy and power and materials sectors raise the most IPO capital while real estate, healthcare and technology IPOs decline 90% on average • 80% of equity issuances are follow-on offerings; over half are recapitalizations of Õnancial Õrms • Large, quality companies in energy, infrastructure, cleantech and healthcare are expected to be the Õrst to go public • Private placements bridge short-term funding gaps, while offering attractive entry points for investors into companies During 2008, a total of 762 IPOs worldwide raised US$95.2 billion, representing a 61% drop in deal numbers and a 67% decline in capital raised from 2007 (see Õgure 1, page 6).1 2008 saw the lowest number of IPOs since at least 19952 and since 2003 for capital raised. Faced with the lowest market valuations since the 1980s, a record number of prospective IPOs were withdrawn or postponed. By stark contrast, in 2007, global IPO activity had soared to an all-time high with 1,979 deals and US$287.1 billion in capital raised (see Õgure 1, page 6). In the Õrst quarter of 2009, IPO markets continued to stagnate as volatile markets made it difÕcult to price and execute deals. Globally, a total of 51 IPOs in a wide range of sectors raised a mere US$1.4 billion (see Õgure 4, page 8). The largest offering for the quarter was the US$828 million carve-out IPO of Mead Johnson Nutrition Co. on the New York Stock Exchange (NYSE). Large, emerging market companies sustain 2008 global IPOs A few market-leading companies were well received by the world’s public markets in 2008, almost all in the Õrst half. The largest IPO of the year, and the biggest ever in US history, was the US$19.7 billion Visa IPO on the NYSE, which represented 21% of total capital raised globally (see page 16). In 2008, the emerging markets were the source of 15 of the 20 largest IPOs worldwide (including 4 from China and 4 from Saudi Arabia) (see page 16). The second largest IPO was the US$5.7 billion offering of China Railway Construction Corp. Ltd, a dual listing on the Shanghai and Hong Kong stock exchanges. The third largest offering was Brazil’s biggest ever, the US$4.1 billion IPO of oil and gas company OGX on the Sao Paolo Stock Exchange. In 2008, the deal threshold required to make the top 20 of global IPOs fell to US$0.85 billion, a 56% decline from 2007. Market volatility diminishes valuations High volatility and depressed valuations put the brakes on global IPO markets. Pricing businesses has become extremely difÕcult as market prices of comparable public companies Öuctuated so widely (up to 5-10%) each day. “Probably one of the biggest challenges to the IPO market now is that public market valuations have come down so signiÕcantly — in some cases, 70% off where they were less than a year ago,” says Scott Cutler, Executive Vice President, America’s Listing, NYSE Euronext.

In 2008, the global Õnancial crisis led worldwide IPO activity to plummet by more than half. Investor appetite and companies’ willingness to list were severely undermined by tumbles in market indices averaging 40%, constrained credit and the abrupt collapse of the globalized banking system. Around the world, the major obstacles to an IPO include shaky economic fundamentals, negative investor sentiment and volatility in equity markets. Seeking to stabilize markets and revive their economies, the world’s governments are cutting interest rates and crafting stimulus packages and industry bailout plans. In the process, the rules governing global capital markets, including IPOs, continue to be rewritten in 2009.

1 Unless otherwise speciÕed, all IPO data in the report is based on annual and quarterly data provided by Dealogic, Thomson Financial and Ernst & Young 2 Ernst & Young Õrst began tracking global IPO activity in 1995

4

Global IPO trends report 2009

Around the world, the major obstacles to an IPO include shaky economic fundamentals, negative investor sentiment and volatility in equity markets

The expectation gap for valuations continues to widen between investors and companies looking to go public. “Prelisted companies are in a state of denial about the depressed valuations as reÖected in their stock price and what they consider fair market value for their company,” says Philip Leung, Ernst & Young Strategic Growth Markets Leader in China. “We still need a valuation reset in the IPO market, says Cutler. “Quite frankly, investors won’t tolerate anything else.” Despite IPO declines, emerging markets still drive global growth With assets being revalued globally, no IPO market was insulated from the Õnancial crisis. Almost all countries saw a substantial drop in numbers and fundraising, even those that had been IPO powerhouses in recent years, such as BRIC countries (Brazil, Russia, India and China). In 2008, the BRIC countries together hosted 163 deals worth US$28 billion, a 62% drop in deal numbers and a 76% decline in funds raised from 2007 (see page 17). In early 2008, emerging markets appeared to be relatively immune to developed market economic meltdown. However, by the end of 2008, decoupling theories were thoroughly debunked as emerging markets suffered a severe loss in asset values, liquidity and investor conÕdence, just as in the developed markets. Nevertheless, in 2009, emerging markets continue to grow, albeit more slowly at 3.3% on average.3 On the other hand, developed markets are forecast to sustain a GDP contraction of approximately -1.6 to 2%4 and go through an ofÕcial recession. IPO markets in Americas, Europe and Russia were hardest-hit In the face of weakening economic fundamentals and the subprime crisis, the US saw 31 IPOs worth US$25.9 billion, an 82% fall in deal numbers and 24% decrease in funds raised from the previous year. Even so, in 2008, the US was the fundraising leader with 27% of the total global capital raised — this was due primarily to the massive Visa deal, which by itself, made up 21% of global fundraising. Latin American markets also ground to a halt in response to the global credit crunch, falling commodity prices and rising interest rates. In 2008, the region saw just 10 IPOs together worth US$7.3 billion, a 89% plunge in deal numbers and a 81% decline in funds raised from 2007 (see page 17). Regionally, Latin America made up 8% of global IPO funds raised in 2008, compared 13% in 2007. European companies grappled with bleak earnings outlooks, sinking stock markets and looming recession. Europe generated just 168
3 Gross domestic product (GDP) growth rates, IMF World Economic Outlook, October 2008 4 Ibid.

deals worth US$13.6 billion, representing a 67% decrease in deal numbers and an 85% drop in funds raised from 2007. As a region, Europe accounted for 14% of global IPO fundraising, compared with a 32% share in 2007. Threatened by the global banking crisis, oil price Öuctuations, exchange rate devaluations and accelerating inÖation, Russia saw only two deals worth US$1 billion — a collapse of 90% in deal numbers and 95% in funds raised from 2007. China remains an IPO leader, Saudi Arabia becomes a player Despite the bursting of the equity bubble, Chinese IPOs were sustained by a still fast growing economy and infrastructural privatizations. In 2008, Greater China retained its lead globally in IPO deal numbers and came in second only to the US in fundraising, with 127 deals worth a total of US$17.9 billion, a 51% drop in deal numbers and a 73% decline in funds raised from 2007. The widening Õnancial crisis helped trigger high volatility in India’s stock markets in 2008. India’s 40 IPOs raised US$4.8 billion, representing a 62% drop in number of deals and 45% decline in funds raised, compared with 2007. India’s energy company Reliance Power was the fourth largest IPO, raising US$3.0 billion on the Bombay Stock Exchange, but now trades far below its offer price. In the Õrst half of 2008, the Middle East, particularly Saudi Arabia, emerged as a major player in the global IPO market. Shored up by vast liquidity, soaring oil prices, infrastructural development and privatizations, the Middle East yielded 51 IPOs worth US$13.2 billion, representing 17% of global capital raised (compared with 7% in 2007). Indeed, 4 of the world’s top 20 deals were from Saudi Arabia. However, by the end of 2008, deÖated oil prices and global Õnancial crisis halted Saudi IPO momentum. Financial, energy and natural resources IPOs prevail Although all industries contributed to 2008 global IPO activity, the top three sectors accounted for 63% of total fundraising: Õnancial services (US$26.0 billion), energy and power (US$18.3 billion) and materials (US$16.0 billion). By number of deals, the leading sectors for IPOs were materials (185 offerings), industrials (108) and technology (84) (see Õgure 3, page 7). With all sectors down, risk-averse investors heavily discounted high-growth companies in particular. In funds raised, real estate, healthcare and technology industries declined the most, generating just US$1.8 billion (down 94% from 2007), US$1.1 billion (down 89%) and US$1.9 billion (down 88%).

5

Perspectives on global IPO markets
Figure 1: Global IPO activity by year

Capital raised (US$b)

Number of deals
1,979 1,729 1,517 1,537

1,837

1,748 1,372

1,883

832 1,042

839

864

762

$132 $145 $116 $177 $210
1996 1997 1998 1999 2000

$94
2001

$66
2002

$50
2003

$125 $167 $246 $287
2004 2005 2006 2007

$95
2008

Source: Dealogic, Thomson Financial, Ernst & Young

Follow-on offerings make up about 80% of equity issuance in 2008 With the market instability and harsh debt constraints, wary investors focused on follow-on offerings (share offerings from already-public companies). Typically perceived by investors as less risky and volatile than IPOs, follow-on offerings made up about 80% of equity issuance in 2008, with 2,664 deals worth US$554.4 billion. “Follow-ons are happening now because of reÕnancing challenges,” says Michael Lynch-Bell, Ernst & Young UK IPO Services Leader. “Lower proÕtability has led to concerns about breaching debt covenants. Raising additional equity through follow-on offerings is the best solution.” Capital raising in 2008 was heavily biased towards recapitalization. In the wake of huge write-downs, Õnancial services Õrms made up 55% of global follow-on fundraising. Large global banking institutions used capital gained through follow-on offerings to repair balance sheets and Õnance acquisitions. Other leading sectors for follow-on offerings were metals and mining with 10% of total funds raised and energy and power with 7%. Major exchanges lose market share, but trend may be reversing The top three exchanges in 2008 by capital raised were the NYSE, the LSE and the Hong Kong Stock Exchange (HKEx) (see Õgure 2, page 7). Buoyed by the Visa listing, the NYSE accounted for US$24.8 billion (26% of global capital raised), the LSE made up US$5.5 billion and the HKEx hosted US$4.8 billion. By number of deals, the top three exchanges were the Australian Stock Exchange (65 IPOs), AIM London (27) and HKEx (24) (see Õgure 2, page 7). In 2008, the developed market exchanges continued to lose market share to emerging market bourses in the Middle East and Asia. In the competition between stock exchanges, IPOs have become the eagerly sought-after trophies. As capital markets globalize, local exchanges outside the main markets have proven themselves highly capable of hosting large public offerings. In 2008, 72% of all IPOs (in number of deals) did not list on the top 10 stock exchanges. Historically,5 including the year 2008, around 90% of IPOs take place on their home exchanges.
5 In every year since Ernst & Young started tracking global IPO activity in 1995

However, newly risk-averse investors may be driving issuers back toward the more established major exchanges such as the NYSE or LSE. Nowadays, these main exchanges may be deemed “safer” because of the perceived instability of smaller exchanges, especially in the emerging markets. “The recent volatility shows that stocks listed on a big exchange generally are more stable,” says Mark Jarvis, Ernst & Young UK Inbound IPO Leader. “Going forward, probably more emerging markets companies will consider listing on the larger exchanges.” Private placements may bridge short-term funding gaps Due to the challenges in raising capital through equity and debt markets, companies might decide to do a private placement (i.e., place shares privately with institutional shareholders). Through private placements, a company can access long-term capital without risking its reputation in a possibly unsuccessful IPO. “Such private placements can bridge short- or medium-term funding gaps for corporations while offering reasonably attractive entry points for investors into companies,” says Edward Law, Co-Head of Western Europe Equity Capital Markets, Deutsche Bank. While private placement funding can tide a prelisted company over until it is ready to borrow again or do a proper IPO, it does have its drawbacks. For example with today’s reduced valuations, private placements set a lower benchmark for the valuation of the company. A private placement could provide enough capital to avoid the public markets for the short term, but eventually investors will need more substantial capital, which is typically best achieved through an IPO. Beyond 2009, PE may pursue IPOs to monetize or deleverage Although unattractive valuations and pricing of IPOs made new issuances difÕcult in 2008, private equity (PE) could be a key source of IPOs beyond 2009. Under increasing pressure to release capital to investors, PE Õrms may be encouraged to exit investments earlier than they would normally choose, and determine the IPO market to be the best available capital source. “Sponsors may want to pursue an IPO to start the monetization process or to deleverage the balance sheet ahead of near-term debt maturities,” says Lisa Carnoy, Global Head of Equity Capital Markets, Bank of America Merrill Lynch.

6

Global IPO trends report 2009

Figure 2: Global IPO activity by stock exchange*
Number of deals
NASDAQ: 2% (16) NYSE: 2% (16) LSE: 1% (6) AIM: 3.5% (27) Euronext: 1% (10) Alternext: 0.8% (6) Deutsche Borse: 0.4% (3) HKEx: 3% (24) Tokyo: 1% (8) Toronto: 2% (13) ASX: 8.5% (65) SGX: 3% (21)

Total capital raised
NASDAQ: 1.6% (US$1.5b) NYSE: 26% (US$24.8b) LSE: 6% (US$5.5b) AIM: 1% (US$1.0b) Euronext: 3% (US$2.5b) Alternext: 0.1% (US$0.057b) Deutsche Borse: 0.6% (US$0.6b) HKEx: 5% (US$4.8b) Tokyo: 0.4% (US$0.4b) Toronto: 0.8% (US$0.8b) ASX: 1.7% (US$1.6b) SGX: 1% (US$0.9b)

Other: 72% (547)

Other: 53% (US$50.7b)

*Data based on the stock exchange, regardless of the listed company domicile Source: Dealogic, Thomson Financial, Ernst & Young

Figure 3: Global IPO activity by industry, 2008
Number of deals
Retail: 4% Real estate: 4% Media and entertainment: 4% Telecommunications: 3% Consumer products and services: 8% Consumer staples: 6% Energy and power: 8%

Total capital raised
Telecommunications: 7% Consumer products and services: 2% Consumer staples: 4% Energy and power: 19%

Retail: 2% Real estate: 2% Media and entertainment: 1% Materials: 17%

Materials: 24%

Financials: 9%

Healthcare: 5% Industrials: 15% Industrials: 14% High technology: 11% High technology: 2% Financials: 28% Healthcare: 1%

Source: Dealogic, Thomson Financial, Ernst & Young

M&A volumes deteriorate, although buying opportunities abound Bringing to a close Õve consecutive years of M&A growth, global M&A volume reached US$2.9 trillion in announced deals, a decline of 29% from 2007 totals.6 The difÕculty in deal-making was reÖected in the 1,194 withdrawn M&A transactions during the year, the highest level since 2000. Potential buyers have exercised caution in the midst of market uncertainty. Nevertheless, it is expected that in 2009 and beyond, companies with relatively stable stock prices and strong balance sheets will be driving the M&A markets. Cash-rich businesses are viewing the economic crisis as an opportunity to “buy or bury” the competition. Such companies will likely begin to acquire undervalued and distressed assets of “strategic Õts” within a year or so.

Long-term fundamental investors will be primary IPO investor base The recent capital market turbulence will probably shift the primary target investor base for IPOs to the more traditional “long-only” fundamentals-based investors. These are investors, such as mutual funds and pension funds, with committed long-term capital and fundamental views. Since 2004, hedge funds typically bought around a quarter of all IPOs. However, in 2008-09, hedge funds lost capital due to the withdrawal of funds by institutional investors under pressure from the Õnancial crisis. Thus, hedge funds will likely be less active in the IPO space. “Although long-only investors always made up the majority of demand in IPOs, they will be even more important than the hedge fund community in the future,” says Law, “reÖecting more of a change in the relative sizes of the two asset classes rather than any fundamental difference in investing strategy.”

6 M&A Review full year 2008, Dealogic, January 2009

7

Perspectives on global IPO markets

Figure 4: Global IPO activity by quarter
Capital raised (US$b)
585 455 337 339 226 171 130 $4 $7 386 337 333 403 347 454 344 458 342 381 591 440

Number of deals

567

251 269 164 78 51 $1.4

$13 $26 $27 $33 $27 $37 $29 $37 $33 $68 $34 $62 $45 $105 $36 $90 $59 $102 $41 $38 $13

$3

Q103 Q203 Q303 Q403 Q104 Q204 Q304 Q404 Q105 Q205 Q305 Q405 Q106 Q206 Q306 Q406 Q107 Q207 Q307 Q407 Q108 Q208 Q308 Q408 Q109
Source: Dealogic, Thomson Financial, Ernst & Young

An IPO revival requires stable markets Historically, markets have taken at least four to six quarters to recover from an economic downturn, as was the case after the dot-com bubble burst in 2001. In order for the IPO window of opportunity to reopen, global markets need to see a period of relative macroeconomic stability. “By stability, I don’t necessarily mean a return to growth, it’s as much about a reduction in volatility, or a perception that the economy has bottomed out or at least is stabilizing,” says Law. Furthermore, a time lag always exists between broader market stabilization and companies coming to the public markets, primarily due to the lengthy preparation time for an IPO. Market analysts commonly cite the following indicators of an IPO market revival: positive fund Öows into the equity market, investor appetite, brighter corporate earnings outlook, recovery in market valuations, evidence of liquidity to spur business and consumer spending, completion of successful follow-on issues for established public companies, successful public-equity transactions involving carve-outs/spin-outs from existing large public companies and new VC/PE-backed IPOs. For now, analysts are focusing on the likely impact of central bank and government measures. First to go public will be larger, high-quality companies Bankers consistently agree upon a discernible Öight to quality. “Investors want certainty, visibility and results,” says Carnoy. “The era of IPO-ing a story rather than a track record is at an end,” says Jarvis. Risk-averse investors will seek scalable, larger companies (with a market cap above US$1 billion), and will closely scrutinize Õnancial statements, business plans, growth plans and use of proceeds. Thus, companies looking to go public will need to have strong fundamentals, good corporate governance, stable cash Öows, favorable earnings outlook, proven management teams and a solid asset base. They will need to demonstrate robust operational performance on a quarterly basis and a business model that has proven resilient throughout the downturn. Risk will play a more important role in investment decisions. “Many of the problems with distressed companies worldwide, particularly Õnancial institutions, have to do with losses caused by poor risk management processes,” says Phil Gandier, Ernst & Young Middle East IPO Leader. “People just didn’t understand the products they

were investing in and how risky they were.” From an investment banking perspective, risk will play a more important element to investment decisions, and companies will not be as highly leveraged as in the past. “In the investment banking landscape, the whole paradigm has changed in terms of leverage and risk,” says Cutler. Energy, infrastructure and follow–ons look promising Although most IPO markets remain dormant, the IPO pipeline of companies preparing to make the transition from private entity to public enterprise remains robust, both in the developed and emerging markets. Many quality companies, from a variety of geographic regions, have delayed or deferred their public listings. Companies in sectors such as energy, infrastructure, clean technology, hard assets, healthcare and telecommunications are expected to be the Õrst to take advantage of a market recovery. “Markets will see that companies will be rewarded for making things and being at the cutting edge of internet technology, green technologies or alternative energies, social programs and infrastructure development, rather than for providing services or Õnancing,” says George Magnus, Senior Economic Advisor of UBS in London. Furthermore, in 2009, the lion’s share of equity issuance is likely to be follow-on offerings from already listed companies seeking to recapitalize balance sheets or Õnance acquisitions. These attractively priced sources of Õnancing are still in demand by global companies. And until there is a broader market recovery, investors are expected to continue migrating to already public companies with positive price/ earnings ratios and a track record. Some analysts such as Law believe that investment decisions will be very company-speciÕc, rather than sector- or geography-speciÕc. The nature of the business, rather than the country or exchange of listing will deÕne investment decision. “The companies that come to market will be very much determined by investor appetite for those speciÕc companies, rather than just by a broader regional stabilization in markets,” says Law, who believes that it is very difÕcult and inappropriate to try to identify which markets will open Õrst.

8

Global IPO trends report 2009

Market outperformers start acting like public companies at least 12 months prior to the IPO by implementing critical changes to their strategic and corporate tax planning, management team, Õnancial accounting, reporting and internal control systems

Top performers act like public companies early on Many successful companies emerge from the tough times Even when the Õnancial climate is not ideal for raising funds, it could Early signs suggest a shift toward a new economic landscape — toward be a good time to plan for an IPO. Executives of outperforming those companies that offer bold new solutions for the modern world. companies start preparing to list a full 12 to 24 months before “Innovation and productivity have to replace leverage as the global going public so that they are well positioned to take advantage of growth engine,” says Magnus. As the market recovers, some of the the re-opening of the IPO window.7 “Market outperformers start most promising IPOs will be those companies that can sell themselves on their ability to innovate and to convert these innovations into acting like public companies at least 12 months prior to the IPO by revenue. implementing critical changes to their strategic and corporate tax planning, management team, Õnancial accounting, reporting and In 2009, where many companies are failing, others are emerging internal control systems,” says Gil Forer, Ernst & Young Global Director to take their place. Many global market leaders were formed during IPO Initiatives. economic downturns/recessions. Historically, post-recession periods see numerous highly successful IPOs. Typically, the company seeking Because of the market uncertainty, “dual tracking” discussions are to go public after a market downturn has evolved into a leaner, more common, in which companies pursue the preparation process for efÕcient organization and has demonstrated a robust business model, an IPO event as well as for a disposal or merger event. “95% of the strong performance and long-term sustainability. preparation process for an IPO will put a business in a good position to sell itself or attract new investors,” says Jackie Kelley, Ernst & With new deal structures, new players and new areas of opportunity Young Americas IPO Leader. “Companies should be prepared for emerging, 2009 is turning out to be a year of adjustment. The both eventualities. Obviously, it’s unknown which part of the market’s repercussions of worldwide governmental efforts to overhaul, expand going to open Õrst.” A multi-track approach reduces risk without and globalize the regulatory environment will be felt for many years. adding much cost or time because many of the same preparations are The turmoil gripping the Õnancial system could lead to a “changing of necessary, whichever route is chosen. the guard” in the world’s top companies. Many established names could lose their market-leading positions and be replaced by a whole new Many newly public companies seriously underestimate the level of breed of dynamic, fast-growth entrepreneurial companies. As always, market scrutiny that accompanies an IPO. Newly listed companies the best companies will Õnd a way to turn adversity into opportunity. must meet market and analyst expectations immediately. Although this is a market truism, it is even more critical after downturns. Management must strive for accuracy in projections and forecasts so Gil Forer, Global Director, IPO Initiatives, Strategic Growth Markets, that targets are consistently hit — quarter after quarter. For a public Ernst & Young company, a single news item that is not well-managed by the investor Jennifer Lee-Sims, Global Associate Director, IPO Initiatives, Strategic relations function can have a signiÕcant impact on stock price. Growth Markets, Ernst & Young After the IPO, the executive challenge is to deliver the shareholder value promised to stakeholders. For a majority of executives, operational excellence is the most highly valued characteristic for creating post-IPO shareholder value. “This recession is likely to be the ultimate stress test of business models,” says Law. “Investors will look for business plans that have been very resilient throughout the downturn. The biggest driver of valuations and investor appetite for companies will be their performance in the 12-24 months prior to IPO.” Especially in today’s crisis environment, companies should focus on the day-to-day operational performance of the business.

7 Top 10 IPO readiness challenges – A Measures that matter global study, Ernst & Young; 2008

9

Perspectives on global IPO markets

“The current downturn will be the ultimate stress test of many companies’ business models”
Ernst & Young: What’s your perspective on global IPO activity for 2008-09? Edward Law: At the start of 2008, we saw continued activity in the global IPO market, especially from emerging markets. In particular, the Middle East continued to be active, driven by the region’s attractive growth prospects and the perception, at that stage, that emerging markets would be less impacted by the Õnancial crisis. Then towards the end of 2008, the effect of the credit crunch spread on a geographic basis to IPO activity across all regions. In terms of the equity capital market (ECM) landscape in 2009, the bulk of equity issuance will be follow-ons/rights offerings from existing listed companies looking to raise signiÕcant amounts of money to recapitalize their balance sheets or, potentially, to Õnance acquisitions. This has certainly been the case in the Õrst few months of 2009. In the current downturn, the market is looking to differentiate between the winners and losers, and investors are being selective about how they deploy their cash. Investors are willing to back the companies they see as the winners, but on the other hand, they may consider walking away from companies they perceive as weak and likely to struggle through the downturn. At the moment, investors are very much focusing on the companies they already have in their existing portfolios. Volatility remains much higher than historic norms, and until this subsides investor conÕdence will remain weaker, particularly in relation to IPOs. Uncertainty in equity markets has a particularly strong impact on investors’ willingness to invest in new businesses or untested management teams, which is ultimately what an IPO is. In addition, IPOs are supply driven as opposed to just demand led, and with current low valuations, owners of businesses are less willing to sell. As we progress through the Õrst quarter of 2009, it certainly feels like we’re yet to return to a supportive environment for IPOs. Ernst & Young: What’s behind the signiÕcant decline in global IPO market activity? Edward Law: Clearly, we saw a signiÕcant decline in IPO activity in 2008 compared with the years immediately beforehand. Overall, investors’ risk appetite decreased in 2008 in reaction to the credit crunch and the uncertainty it created. Investors are now focusing much more on their existing portfolios and are less willing to back companies they don’t know well with unfamiliar management teams. If you look at the split of total ECM issuance, IPOs usually account for around 30% of equity issuance volumes. But in 2008, we saw a decline in IPOs relative to overall issuance. That was largely a function of the nature of capital-raising in 2008, which was obviously heavily biased towards recapitalizations, particularly in the Õnancial services sector. Banks accounted for approximately 50% of overall issuance in Europe in 2008. It’s also a function of broader market conditions. It is very difÕcult to execute IPOs in extreme volatility. The marketing process for IPOs is generally to set a price range and then go out on the road to potential investors for a fortnight. This means you have two weeks’ exposure to market movements while you’re executing a transaction. When markets are volatile, two weeks can be a long time — the comparables that you’re pricing the IPO against can move several percentage points a day, in either direction. Of course, this makes it very difÕcult to price a company new to the market. Ernst & Young: Currently, what are the chief concerns of prelisted companies that you speak with? Edward Law: Companies recognize that right now is not an easy time to IPO. At the moment, they are looking for broader guidance on the direction of the economy — on when we are going to see some stability in the macro environment and, also, in underlying equity markets. From a valuation perspective, in an IPO there’s sometimes an expectation gap between the seller and the underlying company looking to list. Valuations across all asset classes have declined signiÕcantly in the last 12 to 18 months, and the ability to achieve an attractive valuation is an important driver to encourage owners of potential IPO candidates to sell these assets through the public markets. Nevertheless, there are situations where companies need access to capital for other reasons, whether it’s investment for growth, to make acquisitions, to strengthen their balance sheets, etc. And if the need is in the short term, that will obviously drive timing. So ultimately there’s always a balance to be struck between valuations and whether the company needs to come to market for speciÕc corporate reasons. Ernst & Young: What are the broader market conditions necessary to support a recovery in the global IPO markets? Edward Law: In the United States, Europe and Asia, we need to see a period of relative

10

Global IPO trends report 2009

Ernst & Young interview

Edward Law Co-Head of Western Europe Equity Capital Markets, Deutsche Bank

macroeconomic stability. By stability, I don’t necessarily mean a return to growth; it’s as much about a reduction in volatility, or a perception that the economy has bottomed out or at least is stabilizing. We need to see a recovery in broader equity investor sentiment and the current wave of recapitalizations will need to have largely passed, in order to provide the appropriate backdrop for investors to be prepared to put money to work in newly listed companies. In addition, investors are going to want to see better visibility on broader corporate earnings across the listed companies, and really understand the recession’s impact by sector, by company. Sellers of assets will want to see some form of recovery in market valuations. All of this will be helped by more funds Öowing back into the equity market. Ernst & Young: What is your timeframe for the reopening of the global IPO markets? Edward Law: Assuming that we do see stabilization in the secondary market during mid-2009, the thing to remember about IPOs is that there’s always a time lag between stabilization in the equity markets and companies coming to IPO. This is largely simply a factor of the preparation and time required to launch an IPO. Once a company decides to IPO, it will typically take three to four months from when they start preparation to when they actually list. It generally takes that much time to produce Õnancial statements, a prospectus, marketing materials, brief research analysts and so on. Obviously, you need to see a stabilization of markets before summer in order for people to feel comfortable enough to commit to an IPO during the summer. It’s conceivable

we could see the IPO markets starting to reopen at the end of 2009. However, then the decisions to go ahead would, realistically, need to be made just after the summer holidays, so around September 2009. Ernst & Young: What will investors look for in companies that reopen the IPO markets? Edward Law: It will very much be the highquality issuers with defensive characteristics, strong earnings visibility and strong cash Öow. We saw that last time in some of the companies that came back into the IPO market in 2003 - 2004, some of the bigger companies like Eircom, a telecommunications company with very visible, clear cash Öows

It is very difÕcult, and not really relevant, to try to identify countries that could open up quicker. What matters is the characteristics of the speciÕc company. For instance, investors in Europe are typically investing on a panEuropean basis nowadays. Having said that, there is an interesting debate to be had about developed economies versus emerging market economies. Emerging market IPOs will typically be much more growth-oriented investment propositions than those in developed market economies. It’s extremely difÕcult to call which would open up Õrst. It will depend upon investor risk appetite for growth stories and for the emerging markets themselves. But

Volatility remains much higher than historic norms, and until this subsides, investor conÕdence will remain weaker, particularly in relation to IPOs
and Northumbrian Water, a utility company in the United Kingdom, in May 2003. It will be critical for newly issued companies to meet analyst and market expectations in the early months and years after the IPO. This always applies to companies coming to the market, but even more so after a period of market stress. A company that has a lessestablished track record, a new company coming to the market — investors will be very unforgiving of any company that misses its target after it does come to market. Investors will initially watch new companies very closely. Ernst & Young: Which geographies will be most active when the IPO window reopens? Edward Law: The country or stock exchange is not going to drive investment decisions. I think it’s pretty reasonable to assume that the emerging markets IPO market would open up roughly around the same time as the Western European one. Ernst & Young: Which types of companies or sectors will be the Õrst to go public? Edward Law: It’s going to be very companyspeciÕc rather than sector- or geographyspeciÕc. The companies that come to market will be very much determined by investor appetite for those speciÕc companies, rather than just by a broader regional stabilization in markets. Investors will be much more discerning as to the sorts of management teams, the sorts of companies, the types of businesses they want to back.

11

Perspectives on global IPO markets

The biggest driver of valuations and investor appetite for companies when they do come to market will be their performance in the 12–24 months prior to IPO

To some extent, the current downturn is going to be the ultimate stress test of many companies’ business models. Investors will look for business plans that have been very resilient throughout the downturn. These are probably going to be reasonably defensive businesses with pretty clear visibility on earnings going forward, supported by stable cash Öows. Proven management teams with proven execution capabilities will be critical to attracting investor support. These types of businesses are probably more common in the developed markets. Investors will also be looking for companies they Õnd predictable and stable enough to be able to work out and identify the valuecreation opportunity going forward. It’s really a case of resilient, stable businesses. There’s no doubt that cash Öow generation is going to be very important to investors as we move out of this downturn. Ernst & Young: How do prelisted companies make the decision whether to pursue an IPO or look to alternative capital sources? Edward Law: Value maximization is typically an important factor when companies think about accessing the public market, as well as future access to capital to fund future growth. Given the depressed valuations currently in the market, that’s obviously going to be a deterrent to listing in the near term, but with general availability of capital becoming more scarce, having access to equity market funding will be a positive. In recent years, some of the biggest competition for the IPO market has actually been from private equity (PE) Õrms doing secondary buyouts. A lot of that has been driven by cheap debt and access to credit. Often you’d have a situation where a seller or even a PE company was looking to IPO or

monetize an asset. They’d run a dual-track IPO and M&A process or they’d start with an IPO. Then another sponsor would come along and make an offer for that asset. During the credit bull market, the valuation that was achievable using leverage in a private capacity was much greater than the public markets were willing to pay. Looking ahead to the IPO market beyond 2009, the public market will be signiÕcantly more attractive and competitive than other exit routes, for PE but also for all sellers of assets on a relative basis. Having said that, there’s no doubt that trade sales will also remain a feature for potential sellers of assets. Ernst & Young: What are the key alternative sources of capital available to companies now? Edward Law: It’s the usual things. If you’re a private company, clearly you don’t have access to public equity, so you would be looking at debt Õnancing. There’s no doubt securing credit is more difÕcult right now than it has been for some time. You could be looking at getting an additional partner through a private placement. They certainly can bridge short- to mediumterm funding gaps for companies while often offering reasonably attractive entry points for investors. They would potentially provide enough capital to avoid the company needing to come to the IPO market in the short term. These private placements can take the form of a sale of straight equity or issuance of debt-like instruments with Õxed coupons convertible into straight equity at IPO, and potentially can build around some guaranteed minimum returns for investors. Having said that, the issue with private placements from an investor’s perspective is

that they’re obviously not liquid. The liquidity event is an IPO, so that in itself can impact the overall attractiveness for investors. People are focusing back on liquidity in their investments. The other area that’s worth mentioning is the willingness of big strategic investors to commit long-term capital. Those would be the likes of sovereign wealth funds (SWFs) or high net worth individuals, both of which remain open for business. When you think across a broad range of funding options on the debt side, funding is difÕcult, and although the right companies can still access those markets, the cost has increased signiÕcantly. So alternative forms of equity are going to need to come from some form of private placement or strategic-type investors like SWFs. However, it’s difÕcult to see SWFs being major participants in pre-IPO investment. They tend to focus very much more on the big brand-name companies or those opportunities that are interesting from a strategic perspective. Ernst & Young: What’s your outlook for PEbacked IPOs? Edward Law: It’s a bit early to tell how that’s going to play out. PE investors will always be very focused on valuation, because ultimately they will be seeking to maximize their portfolios’ returns. There’s a general expectation in the market that PE Õrms will come under pressure to release capital to their investors. This could encourage some of them to look to exit investments earlier than they would normally choose to, in order to provide liquidity to their own end investors. Having said that, they will be very cognizant of and sensitive to valuation. The two push and pull factors will

12

Global IPO trends report 2009

need to marry to see a signiÕcant increase in PE IPOs. What are their alternatives for exiting their investments? Given the change in the credit markets and the increased cost of credit on a relative basis, we certainly think that IPOs will be a more attractive exit route than they have been in recent years. When a PE Õrm thinks about exiting an investment, the options are an IPO, a sale to another PE Õrm, or a trade sale. A trade sale will be very situation-speciÕc. Is there another company that could buy it despite antitrust concerns? Or it could depend on availability, or the willingness of a public listed company to undertake M&A activity. Sale to another PE Õrm won’t compete with the IPO market as easily as it has in recent years, because of the increasing cost of credit. Ernst & Young: How will IPO markets be changing as a result of the Õnancial turmoil? Edward Law: In recent equity transactions that Deutsche Bank has executed, we’ve seen increased participation from “longonly”, fundamental investors — such as the mutual funds, the pension funds — those investors that are ultimately, as we call it, the fundamentals-based investors. Going forward, the primary target investor base for IPOs will be these long-only fundamental investors who’ve got committed long-term capital, long-term fundamental views on the business. Long-only investors have always accounted for the majority of demand in IPOs. But on a relative basis, they will be even more important than the hedge fund community in the future. That reÖects just the relative sizes of the two asset classes as opposed to any fundamental difference in investing strategy. Ernst & Young: What recommendations are you making to prelisted companies now? Edward Law: Companies that were looking to raise money to fund growth (which is often the rationale behind an IPO) have put their plans on hold because of the negative broader macroeconomic outlook for 2009. Companies looking to IPO in order to delever or because of more imminent capital needs are probably considering alternative sources of capital, such as private placements. Situations where you have an IPO because a majority or a controlling shareholder would like to monetize its investment — those situations often have been put on hold because depressed valuations make it less attractive for the minority shareholders. PE Õrms are focused on the operational performance within their portfolios of companies. In many instances, they’re just managing the debt proÕles of those companies, because the companies tend to be much more highly leveraged than they would be if they were in the public market. As mentioned, most of these are not considering any imminent exits via IPOs. So given the severity of the current crisis and limited visibility, our recommendation to companies right now is to focus on the day-to-day operational performance of the business. As I mentioned, this recession is likely to be the ultimate stress test of business models. When investors look to invest in new companies, they’re going to look at the recent historical performance to extrapolate that out into the future in combination with a broader recovery. The biggest driver of valuations and investor appetite for companies when they do come to market will be their performance in the 12, 18 months or two years prior to IPO, which is going to be a very difÕcult period for companies. So the fundamental focus needs to be on the underlying operational performance of the business. Disclaimer: The views contained in this interview are those of the individual, and not those of Deutsche Bank.

13

Perspectives on global IPO markets

“We need to have a valuation reset in the IPO market”
Ernst & Young: What is your outlook for global IPO activity in 2009? Scott Cutler: 2009 will be a challenging year in the global IPO market. As the stimulus and countercyclical policy measures take effect, we will start to see the overall economic improvement. The IPO market is challenged because business execution is difÕcult, credit is tight, volatility ago. So until the mindset changes of the private company, including the board and the investors, it is going to be very difÕcult for these stakeholders to accept the price buyers are willing to pay. Many will wait for valuations to improve. We will still need to have a valuation reset in the IPO market. Quite frankly, investors won’t tolerate anything else. In the 1990s, fail, without additional Õnancing. So companies are left to Õnd lots of different creative structures and terms to Õnance their businesses to raise capital. The private market is just one of those ways. Ernst & Young: How do you compare this Õnancial crisis to the previous downturns? Scott Cutler: The last major market downturn was really concentrated in one sector, the technology sector (including the internet). This time you are talking about a contagion that relates to the credit market, the Õnancial markets, consumers — and it’s global. We can’t return to market conÕdence without additional consumers having visibility into their own Õnancial situations. It’s much broader certainly than the last downturn. Ernst & Young: When the market begins to recover, what will investors be looking for? Scott Cutler: Investors are looking for companies that are very liquid, as they need to know they can get in and out as needed. We’ll mostly see companies that are large and global, that have proven, sustainable business models, and companies in some instances that address an overall concern in the marketplace — for example, companies related to healthcare, energy, alternative energy, as well as companies that address risk. Ernst & Young: What have been the synergies involved in the NYSE and Euronext merger? Scott Cutler: It continues to evolve. The transactions created the Õrst global exchange and allowed us to expand into other products that have high growth potential. You don’t see many organizations transform their businesses as we have, in such a short period of time. Being a more diversiÕed business

Investment banks will offer less capital and more restrictive terms which will impact the types, valuations and structures of deals consummated
in valuations continue and investor appetite for new risk is low. As these conditions improve, so will the market for IPOs. Bankers are suggesting that the Õrst ones out of the gate will be larger, more liquid deals. Given the overall market volatility and economic outlook, we see few emerging any time soon. Volatility continues to be problematic. Ever since the Lehman Brothers debacle, volatility has largely exceeded 1%. If you look across most sectors — transportation, energy, Õnancials — they’re all down. There’s no real safe haven right now; even the largest, most established companies that are leaders in their spaces are experiencing business challenges. Ernst & Young: What’s been the impact of current public market valuations on IPOs? Scott Cutler: Probably one of the biggest challenges to the IPO market right now is that public market valuations have come down so signiÕcantly — in some cases 70% off where they were less than a year the average discount to pricing relative to the public comparables was around 30% for an IPO. As banks became a lot more competitive in valuation, the average discount moved to around 15%, sometimes even on par in the last couple of years. We are going to see an environment in which the discount to the public comparables is higher than it was in the last few years. That’s mostly because investors would rather invest in the secondary market than in the IPO market, due to the risk. Ernst & Young: What kind of strategic transactions are prelisted companies looking to as alternatives to IPOs? Scott Cutler: Prelisted companies are resorting to private transactions. With the public markets being closed, the impact is far more chilling when you consider that the overall level of M&A activity, which is typically an alternative, is also reduced signiÕcantly over prior years. Capital intensive areas, such as biotechnology, will see hundreds of private as well as young public companies

14

Global IPO trends report 2009

Ernst & Young interview

Scott Cutler Executive Vice President, Americas Listings, NYSE Euronext

really helps in times like this. Purely from a listings perspective, the synergy has been in the opportunity to list companies in other venues outside of the United States. It’s been the expansion of the market opportunity for the NYSE in attracting global listings. Ernst & Young: Are international listings still a big part of your IPO pipeline? Scott Cutler: The landscape has shifted, given a conÖuence of factors. We merged with Euronext, the afÕliation of the Amsterdam-Paris-Brussels-Lisbon exchanges, providing a local European market for listings. Over the last several years, some foreign companies have had concerns about entering the US market, because of regulatory issues. We now have an alternative base for them on which to list, acting to counter-balance the US regulatory issue. We will continue to have a pipeline of companies coming from China, and eventually, some re-emergence of companies from Brazil. International listings will continue from emerging markets in which the indigenous markets have not proven to be sufÕciently liquid and/or when the commercial footprint and US investor base are sought. Clearly, from established Western markets, we do not believe we will see a great deal of activity coming to the US market. But, our platforms in Europe can accommodate those companies. Ernst & Young: Local exchanges in emerging markets have grown quickly – will this trend continue? Scott Cutler: Local exchanges in emerging markets have selectively matured, as have the European markets. Markets such as Hong Kong have successfully reached world scale, for example, in IPO proceeds, though

they depended on mega transactions that resulted from nationalizations/privatizations. Local Asian entrepreneurs have tapped not only this market, but local Chinese markets and the US as well. As to the Latin American market, local exchanges in Brazil, Mexico, Chile, and Columbia have promoted retail investing to facilitate liquidity. We too have facilitated overall liquidity of the exchanges, by offering cross listing opportunities for local companies, thereby increasing the size of the liquidity pie. In summary, emerging markets will continue to selectively mature, though they will be highly dependent on both global and local trends. Ernst & Young: What’s your take on the recent proliferation of alternate trading venues? Scott Cutler: Over the last couple of years, we have seen a continued rise of alternate trading venues. Some consortiums have been put together with investment banks, some have been just a creation of other exchanges or ECNs. This has resulted in the establishment of 40 different liquidity pools today, where an investor can have the opportunity to Õnd the contra trade site outside of the exchanges. That impacts both the NYSE and NASDAQ. I am not sure companies or investors have really understood the impact of liquidity fragmentation. Companies have much less visibility into their trading as a result of fragmentation. Ernst & Young: What does the movement toward greater regulation of Õnancial markets mean for some of the SarbanesOxley reforms that were underway? Scott Cutler: There is strong pressure in this environment for the Securities and Exchange Commission (SEC) in particular to make changes that reduce the burdens

for companies in the US. The general consensus is that the SEC, or perhaps the new administration, will be more open to easing some of those requirements rather than adding more — although certainly in industries that are accepting government aid, such as Õnancial services, you are going to see a lot more regulation. Ernst & Young: Broadly speaking, what will be the key changes in the US Õnancial system for a prelisted company as a result of the recent upheaval? Scott Cutler: Obviously there has been consolidation on the banking side, so there will be fewer banks, and there are no large pure investment banks left. So the whole banking model has changed. From an investment banking point of view, risk will be a more important element to investment decisions. Companies will probably not be as highly leveraged as they have been, so the whole paradigm has changed in terms of leverage and risk in the investment banking landscape. It’s changed forever. As for the IPO market, we are still going to have investment banks that are willing to underwrite transactions. But in terms of where they are putting their own capital — lending to Õnance leveraged buyouts, M&A Õnancing, direct investments for private equity portfolios — there is going to be less capital and more restrictive terms than we have seen in recent memory. This will have an impact on the types of deals that are consummated, the valuations of those deals and the structures of the transactions.

15

Perspectives on global IPO markets

Top 20 IPOs by capital raised in 2008

Rank 1 2

Issue date March 18 March 10

Issuer name Visa Inc China Railway Construction Corp Ltd OGX Petroleo e Gas Participacoes SA Reliance Power Ltd Al Inma Bank New World Resources BV

Domicile nation United States China

Industry description Financials Industrials

Proceeds (US$m) 19,650 5,709

Primary exchange New York Stock Exchange (NYSE) Shanghai Stock Exchange (SSE), Hong Kong Exchanges & Clearing Ltd (HKEx) Sao Paulo Stock Exchange (BOVESPA) Bombay Stock Exchange (BSE) Saudi Stock Exchange (Tadawul) London Stock Exchange (LSE), Prague Stock Exchange (PSE), Warsaw Stock Exchange (WSE) Saudi Stock Exchange (Tadawul) Euronext Istanbul Stock Exchange (ISE) Saudi Stock Exchange (Tadawul) London Stock Exchange (LSE), Bolsa Mexicana de Valores (BMX) Shanghai Stock Exchange (SSE), Hong Kong Exchange & Clearing Ltd (HKEx) New York Stock Exchange (NYSE) Indonesia Stock Exchange (IDX) Shanghai Stock Exchange (SSE) Saudi Stock Exchange (Tadawul) Australian Securities Exchange (ASX) New York Stock Exchange (NYSE) Hong Kong Exchanges & Clearing Ltd (HKEx) Nairobi Stock Exchange (NSE)

3 4 5 6

June 11 January 21 April 16 May 6

Brazil India Saudi Arabia Czech Republic

Energy & power Energy & power Financials Materials

4,112 2,964 2,799 2,515

7 8 9 10 11 12

July 14 June 2 May 9 February 22 May 9 August 18

Saudi Arabian Mining Co – Ma’aden EDP Renovaveis SA Turk Telekomunikasyon AS Mobile Telecommunications Company Saudi Arabia Fresnillo Plc China South Locomotive & Rolling Stock Corp Ltd American Water Works Co Inc PT Adaro Energy Tbk Jinduicheng Molybdenum Co Ltd

Saudi Arabia Portugal Turkey Saudi Arabia Mexico China

Materials Energy & power Telecomm Telecomm Materials Industrials

2,467 2,437 1,918 1,867 1,784 1,565

13 14 15 16 17 18 19 20

April 21 July 16 April 17 January 12 July 30 April 20 March 26 May 7

United States Indonesia China

Energy & power Materials Materials Materials Industrials Materials Consumer staples Telecomm

1,358 1,343 1,271 1,228 1,119 1,104 1,046 849

Rabigh ReÕning & Petrochemical Saudi Arabia Company (PETRORabigh) BrisConnections Intrepid Potash Inc Want Want China Holdings Ltd Safaricom Ltd Australia United States China Kenya

Source: Dealogic, Thomson Financial, Ernst & Young

16

Global IPO trends report 2009

Global IPO activity by region in 2008

Total number of BRIC IPOs

Total funds raised by BRIC IPOs, US$b
$119

430

$86

279 176 109 $13 146 163 $18 $29

$28

2003

2004

2005

2006

2007

2008

2003

2004

2005

2006

2007

2008

North America
% of global deals, 2008 12% 2007 2008 90 Number of deals 270

EMEA
% of global deals, 2008 33% Number of deals 2007 2008 249 699

% of funds globally, 2008 28%

Funds raised 2007 2008 $38b $27b

% of funds globally, 2008 31%

Funds raised 2007 2008 $30b $113b

South America
% of global deals, 2008 1% Number of deals 2007 2008 10 91

Asia PaciÕc
% of global deals, 2008 54% Number of deals 2007 2008 413 919

% of funds globally, 2008 8%

Funds raised 2007 2008 $7b $39b

% of funds globally, 2008 33%

Funds raised 2007 2008 $32b $91b

Source: Dealogic, Thomson Financial, Ernst & Young

17

The United States

US raises the most IPO capital despite faltering economy
Key trends • US was fundraising leader with 27% of global IPO capital raised, due to US$19.7 billion Visa IPO, the largest ever in US • Public market valuations are down as much as 70% from last year, and current US IPO discount will probably be 20% + below comparable public companies • Eight out of ten largest US follow-on offerings took place in 2008, mostly by Õnancial companies • Carve–out offerings and PE Õrms may be a key source of IPOs beyond 2009 • Broader markets need to stabilize for 2-3 consecutive quarters before IPO pipeline activity will return • Large, brand names or growth companies in tech, cleantech and biotech are likely to be Õrst to go public perhaps with impetus from US stimulus plan The top IPO sectors for funds raised in 2008 were Õnancial services (insurance and banks) with US$20.0 billion raised (77% of total capital raised), energy and power generating US$2.7 billion and materials (metals & mining, paper) yielding US$1.3 billion. The leading US IPO sectors in deal numbers were energy and power with eight deals, healthcare with six offerings and the Õnancial sector with Õve new issuances, including Visa. Technology, Õnance and healthcare were the three US sectors which had the most withdrawals from the IPO pipeline. In the Õrst quarter of 2009, US IPO markets continued to languish with just 1 IPO by the world’s biggest baby formula maker, Mead Johnson Nutrition Co. Even so, the offering was quite successful, raising US$828 million, more than planned and was the largest IPO globally in the Õrst quarter. US investors demand deep discounts Shell-shocked US investors are shying away from enterprises without a solid track record. Market volatility has made pricing unproven prelisted companies highly difÕcult. “Probably one of the biggest challenges to the IPO market right now is that public market valuations have come down so signiÕcantly — in some cases 70% off where they were less than a year ago, ”says Scott Cutler, Executive Vice President, Americas Listing, at the New York Stock Exchange. “Prelisted clients are always asking us, ‘What’s the potential discount if we were to IPO now?’ ” says Lisa Carnoy, Co-Head of Equity Capital Markets at Bank of America Merrill Lynch. “In normal market conditions, the IPO discount is usually 10-15% below comparable, already public companies. Now the discount has widened out quite dramatically to comparables — it’s going to be more like 20%+ discount. Again, that’s theoretical since there’s been exactly one US IPO in each of the past two quarters.” Eight out of ten largest US follow-on offerings occur In 2008, despite the steep drop in IPOs, US follow-on markets were quite active, including many of the largest offerings ever launched. 463 follow-on deals by US companies raised US$163.2 billion. With Õnancing in such short supply, in order to raise cash through follow-ons even the blue chip companies had to agree to aggressive Õnancing terms. “In most follow-ons, the stock price was down 1520% but the companies still took the capital,” says Carnoy. “In most cases, the stock came at a signiÕcant discount to where the deal was launched, but in all cases the dollar proceeds targeted at launch were achieved.” In 2008 US follow-on deals, 59% of funds raised came from Õnancial companies seeking capital to repair balance sheets or to Õnance

2008 was a subdued year for US IPO markets, slowed down by the global economic crisis, year-old recession, tight credit and a 38% decline in the Standard & Poors (S&P). US IPOs generated US$25.88 billion in 31 deals, an 82% decline in deal numbers and a 24% drop in fundraising compared with 2007 (see Figure 5, page 20). “However, some larger deals are still getting out with positive results,” says Maria Pinelli, Ernst & Young Americas Strategic Growth Markets Leader. “A good company with a strong business plan can still access the public markets.” Indeed, the largest US IPO ever was launched in 2008 — the US$19.7 billion offering of Visa, the world’s largest retail electronic payments network. Largely due to the Visa issuance, the US raised the most capital, accounting for 27% of total global IPO fundraising. The Visa deal itself constituted 21% of total capital raised through IPOs worldwide. The US$1.36 billion American Water Works Co. IPO was a distant second in size among US IPOs. Even after excluding the hefty Visa deal, the average 2008 US IPO deal size was quite substantial at US$207.7 million, a modest increase from the average deal size of US$198.8 million in 2007.

18

Global IPO trends report 2009

Companies are waiting for an upturn in the market and better pricing. When the market opens, they want to be Õrst out.

acquisitions. Indeed, eight out of the ten largest follow-on offerings by US companies ever (or at least since 19931) took place in 2008 — almost all in the Õnancial services sector including Wells Fargo (US$12.7 billion), JPMorgan Chase (US$11.5 billion) and Bank of America (US$10 billion). Other US sectors active in the 2008 follow-on markets were energy and power (11% of funds raised by US companies), industrials (10%) and real estate (8%). PE Õrms may start to monetize or deleverage through an IPO PE Õrms starting the monetization process or deleveraging their balance sheets may be a signiÕcant source of IPOs in the coming years. It may become worthwhile for a PE Õrm to do an IPO at its entry-point price through a multiyear process, particularly for its distressed assets. “If you bought a company that’s worth US$5 billion, maybe you’ll do a US$1 billion IPO. But then you’ll do two or three follow-ons to exit the investment. So it’s getting the clock started on that monetization process,” says Carnoy. “Even if the Õrst deal is at a suboptimal valuation, it may be worth it to get the company seasoned in the public markets and set the stage for larger sell-downs later.” Many PE Õrms are burdened with numerous short-term loans about to come due, having borrowed billions in debt to purchase portfolio companies in recent years. For such highly leveraged PE Õrms which need to reÕnance their debts soon, an IPO may be a more attractive and obtainable source of capital than other debt alternatives. “A Õnancial sponsor may also do an IPO where it’s not actually monetizing its investment, it’s simply reÕnancing debt, reducing the leverage multiple,” says Carnoy. A US pipeline with M&A targets, dual trackers and carve-outs Large corporations, private capital investors and other strategic partners are now examining possible M&A targets in the IPO pipeline. Since the IPO market has shrunk, many private companies may eventually succumb to a merger or an acquisition. “Challenged to Õnd growth capital, emerging companies are now considering a number of options, including selling themselves to a large existing company, selling a stake to a strategic investor, merging with a competitor or forming a strategic alliance with existing companies in the shortterm,” says Jackie Kelley, Ernst & Young’s Americas IPO Leader. Although US M&A activity was down 31% from the previous year to US$1.0 trillion, those cash rich sectors such as pharmaceuticals were able to close deals.2

As in the last bear market in 2000-02, carve-out offerings may be another key source for US IPOs when the window reopens. An IPO carve-out creates an independent public company when a parent corporation divests a division which is typically experiencing rapid growth. The 2009 IPO of the Mead Johnson Nutrition Co. was a carve-out of biopharmaceutical parent company Bristol-Myers Squibb, which priced at the high end of its range, and sold more shares than anticipated. Quality US companies wait for IPO window to reopen Compared with recent years, there are fewer companies in the US IPO pipeline, but of those that remain, many are quite large and of high quality. “Companies are waiting for an upturn in the market and better pricing,” says Kelley. “When the market opens, they want to be Õrst out.” In the past, companies that didn’t navigate through the registration process on a timely basis, might have been scrutinized and risked a negative image by waiting in the pipeline. “But now, sitting in the pipeline and waiting for a window of opportunity is seen as a reasonable strategy for a company with a strong business plan and Õnancial results,” says Kelley. According to an Ernst & Young survey in November 20083, 35% of executives anticipate the broader markets will reopen in the second half of 2009, 43% look to the Õrst half of 2010, while 14% forecast the second half of 2010. “When the market stabilizes for two or three consecutive quarters, we will see stronger IPO pipeline activity,” says Pinelli. Brand names or growth companies likely to go public Õrst When market stability and investor conÕdence is restored, US IPO activity will resume. SpeciÕc preconditions to an IPO market recovery include positive fund Öows into equity mutual funds, a healthier follow-on market, companies delivering on quarterly results, analysts raising estimates and investor receptivity to IPOs. “Until the mindset changes of the private company, including its board and investors, it is going to be very difÕcult for their stakeholders to accept the price buyers are willing to pay,” says Cutler. “Many companies will sit and wait for valuations to improve.” Two types of companies are likely to be Õrst to go public in the US when markets recover. First, the larger, highly liquid, well-known, established brands with a stronger revenue base and proven sustainable business models and second, the unique companies from the emerging markets or “hot” growth sectors such as technology, clean technology and biotechnology. Risk-averse investors will be seeking companies with a leading market position, proven track record, strong management
3 Survey of 94 executives attending the Ernst & Young Strategic Growth Forum in Palm Springs, California, November 2008

1 These were the largest follow-on offerings at least since 1993, when Dealogic began tracking follow-on offerings 2 M&A review full year 2008, Dealogic, January 2009

19

The United States

Figure 5: US IPO activity by year
team, good Õnancial and controls system, sustainable long-term growth and a leverageable business model. Such growth companies may receive strong impetus from the US$787 billion economic stimulus plan to jumpstart the US economy. Obama’s plan emphasizes government spending on US infrastructure, renewable and alternative energy, healthcare and technology. Since Wall Street is expected to invest in the sectors that stimulus program dollars will be supporting, US governmental policy could increase chances for IPOs in these sectors in the next few years. Says George Magnus, Senior Economic Advisor at UBS, “This is the kind of scenario in which new technologies and innovative capabilities are born.” Early IPO preparations remain good business practices “If companies want to ride the Õrst wave up as the IPO market turns around, they should start planning now for the organizational change, which can take 12-24 months,” says Kelley. Companies that exceed overall market returns have usually implemented the more timeconsuming critical changes for IPO readiness, a full 12-24 months prior to going public (e.g., strategic planning, building the team and establishing the internal control, Õnancial and accounting systems). Less time-consuming changes tend to be implemented later on in the process, usually in the last six months (e.g., public company board composition, the investor relations function and employee/executive compensation issues).4 Some US companies are already beginning the transformational IPO readiness process. “They’re putting corporate governance processes in place, strengthening Õnancial reporting systems, being accountable to quarterly results, holding mock earnings calls with investors, making sure forecasts can be met, building up internal audit departments and hiring key executives,” observes Kelly. A robust infrastructure should facilitate regulatory compliance, protect against risk exposure and provide accurate guidance to forecast Õnances. “Companies should be investing in themselves now, looking internally and saying not only how do we get through this challenging period, but also operate better, smarter and more efÕciently when we emerge?” says Kelley. “IPO or not, strong corporate governance and business practices are fundamental to success.” Jackie Kelley, Americas IPO Leader, Strategic Growth Markets, Ernst & Young US Maria Pinelli, Americas Strategic Growth Markets Leader, Ernst & Young US
4 Top 10 IPO readiness challenges – A Measures that matter global study, Ernst & Young, 2008. 20

Capital raised (US$b)
210 186

Number of deals

187

172

60 $9
2003

31 $35
2004

$33
2005

$34
2006

$34
2007

$26
2008

Source: Dealogic, Thomson Financial, Ernst & Young

Figure 6: North, Central and South American IPO activity, by year
Capital raised (US$b)
333 305 305

Number of deals
361

100 69 $11
2003

$44
2004

$44
2005

$50
2006

$77
2007

$34
2008

Source: Dealogic, Thomson Financial, Ernst & Young

Global IPO trends report 2009

Ernst & Young interview

“Investors want certainty, visibility and results”
Ernst & Young: What’s your outlook for US IPO markets in 2009, and when will the window for new offerings reopen? Lisa Carnoy: We do think the IPO market will reopen in 2009. It is very difÕcult to pinpoint exactly when, but there are a few things that we look for to give us some indication. One would certainly be the trading activity in the secondary market, because higher stock prices will lift valuations for IPOs too. Another factor we would look at is fund Öows into equity mutual funds. We would also look at volatility of the market, which has been exceptionally high. Finally, follow-on offerings — equity deals for already public companies — can be a good indicator of investor receptivity to IPOs. The last time period that was extremely challenging for IPOs was 2001-03. It took about two or three quarters of a decent equity market before the IPO market came back with any great strength. Most people would say this is the most severe and most extended downturn since the Great Depression. But there is still capital being allocated to equities, and there is still a lot of capital being allocated to new investments on the follow-on front. While I don’t expect highly speculative earlystage IPOs to be coming to market in the near term, there are more mature, larger companies that are on Õle or considering an IPO. I do think the market will be open to them during the course of 2009. If you look at the list of companies that are currently on Õle, there are many quite sizeable, quite proÕtable companies that are in the queue. Some of them are cyclical, but some are actually pretty countercyclical and pretty resilient. We do think that there will be markets for some of those IPOs over the course of 2009. Ernst & Young: What would be the likely proÕle of the Õrst US companies to go public? Lisa Carnoy: I would characterize the likely company proÕles in two ways: sector and scale. From a sector perspective, perhaps more countercyclical companies or stories where there is highly visible growth — for example, the education sector, infrastructure, clean energy or alternative energy. Companies with a subscription model have a high degree of visibility to their revenues and their proÕtability over the medium term. In terms of scale, Investors will want companies that have had a certain level of performance and size in terms of market cap, revenues and proÕtability. Also, bigger deals and bigger Öoats as opposed to micro-caps under US$500 million, which is typically the majority of the IPO market. These are companies with market caps of at least US$1 billion, and in some cases are even well into the mid- and large-cap arena, meaning over US$5 billion. One of the potential sources of these IPOs would be the Õnancial sponsor community. Over the last three or four years, there have been a number of very large leveraged buyouts. The sponsors may want to pursue an IPO to start the monetization process or to deleverage the balance sheet ahead of nearterm debt maturities. The Õnancial sponsors may not like the current equity valuations, but they may view the IPO market as the best available source of capital or liquidity. Ernst & Young: Could you be more speciÕc about why private equity (PE) will be a source for US IPOs? Lisa Carnoy: Historically, the PE Õrms would look for returns that were multiples of

Lisa Carnoy Global Head of Equity Capital Markets, Bank of America Merrill Lynch

their entry points. For example, if I bought a company for US$10, I’m not going to IPO it until it’s worth at least US$20, or in some cases US$30 or more. Because there’s been such a lack of activity and so many of their current investments are under water, they may now believe that even if they can IPO a company at US$10 or US$15, it’s still worth going through the process. Because many of these deals were so large, it’s going to be a multiyear process to get out of the position. If you bought a company that’s worth US$5 billion, you’re not going to do a US$5 billion IPO in all likelihood. Maybe you’ll do a US$1 billion IPO, but then you’ll still have to do two or three follow-ons to exit the investment, and so it’s almost about getting the clock started and beginning that monetization process. And even if the Õrst deal is at a suboptimal valuation, it may be worth it to get the company seasoned in the public markets and set the stage for larger sell-downs later. Another factor would be the opportunity to deleverage. Many of the recent deals from 2006–07 had enormous leverage multiples, of eight or nine. Some of these debt securities that were used to Õnance the buyouts were relatively short term, three to Õve years. A sponsor may also do an IPO where they’re not actually monetizing their investments, they’re simply reÕnancing debt. So we’re reducing the leverage multiple from six to Õve to four. Again, while current valuations may not be that attractive in the equity market, if it’s a source of capital, it just may be more attractive than other alternatives in the debt market, which has been closed for most of these highly leveraged companies.

21

The United States

Ernst & Young: Given the high volatility of PE-backed IPOs, why wouldn’t Õnancial sponsors wait longer to exit via IPO? Lisa Carnoy: If you’re sitting on a portfolio of 20 or 30 names and some of them are really distressed, if you have something that’s even modestly working, you may want to show some positive action to your investors — to the limited partners(LPs). In some cases, if you can have a secondary component,

invest equity in pre-IPO investments. Some companies are going to consider a dual track, preparing for both an IPO and an M&A sale. Ernst & Young: What are the likely funding sources for US pre-IPO transactions? Lisa Carnoy: There are pools of private money in some different arms of the same institutions that you would go to during an IPO. It might be a very large mutual fund that

ons in US history — seven of the ten largest in US history happened in 2008. They’re virtually all in the Õnancial services sector. So we did a US$10 billion equity deal for Merrill Lynch and a US$10 billion deal for Bank of America. JPMorgan did a similar deal, as did Goldman Sachs and Wachovia, and then General Electric did an even bigger deal. These are companies that needed capital repair of their balance sheets. They really did not have a choice. It wasn’t so much “Do I go or don’t I go? Do I like the price or don’t I like the price?” In most cases, the stock price impact was very severe. Stock prices were down 15–20%, but they still took the capital. In most cases, the stock came at a signiÕcant discount to where the deal was launched, but in all cases the dollar proceeds targeted at launch was achieved. In the 2009 follow-on market, I think we will see a lot of activity. The Õnancial services sector is not done, so whether it’s banks, investment banks or insurance, Õnancial services companies will come back to the market — though perhaps not as much as in 2008. What I think you’ll see is capital repair now in the industrial sector. Ernst & Young: What are the most common questions that clients ask and what is your response? Lisa Carnoy: They’re asking: when will valuations return to earlier levels, since virtually every industry is down? We can’t predict when, but we can talk about what the fundamentals are that would help drive valuations. They are also asking: what is the potential IPO discount if they were to go public now? That certainly has widened as well. Finally, they want to understand which investors are still looking at deals.

For IPOs to return, we need to see positive equity-fund Öows, a secondary market rebound, already public companies delivering their quarterly results and analysts raising estimates
you can return some capital to your LPs. That in itself would be a positive event in the current environment. If you’re in a fund where you’re not buying something and you may be restructuring some of your existing investments, to show any positive movement is a good thing. If you think the company is going to continue to perform, you might want to start the monetization process. Ernst & Young: What are US companies that have postponed or cancelled their IPOs doing now? Lisa Carnoy: Some companies are still using this time for preparation of their Õnancial reporting, investor relations team, Sarbanes-Oxley — all the incremental kind of management focus that they would need to be public. If they need alternative capital, some are looking to bank debt or other sources of credit. Some are looking for private equity or growth equity gaps. Certain privateequity Õrms don’t really use leverage but has a small fund or a small bucket of money that can be invested privately (typically up to 10%-20% of certain funds). Historically, there were a lot of hedge funds, but hedge funds have become pretty dormant in the new-issue market right now. They obviously have a lot of issues as they deleverage and see money Öow out. Then there are certain kinds of private placement dedicated funds. The sovereign wealth funds have been very, very important — but those are mostly for much larger deals. They want branded, large-cap, multibillion-dollar opportunities, so they’re not typically pre-IPO investment unless it’s very large. They’re active for follow-ons, but not for IPOs. Ernst & Young: What’s your perspective on the 2008 and 2009 US follow-on market? Lisa Carnoy: Issuance is way down. But what’s interesting and probably surprising in some ways is that if you look at the 2008 US follow-on market, you see the largest follow-

22

Global IPO trends report 2009

Ernst & Young interview

For IPOs to return, we need to see positive equity-fund Öows, a secondary market rebound, already public companies delivering their quarterly results and analysts raising estimates. It’s all about visibility. Investors want certainty, visibility and results. One of the issues has been that as earnings have been revised downwards and guidance has come in, it really has make investors more wary. We’ve typically talked about an IPO discount of 10% or 15% from fully distributed levels. It’s theoretical, but this range has been the general guidance over a long-term period. There are some periods in which IPOs have come at virtually no discount to the company, and other times where the discount is very wide. I would say now it’s widened out quite dramatically, and if we were advising clients, it’s going to be more like 20%+. Again, that’s all theoretical since there’s been exactly one US IPO in Q4 2008 and Q1 2009. Ernst & Young: What are the major recent changes in capital markets of most relevance to your prelisted clients? Lisa Carnoy: There has now been a consolidation of the investment industry. So as you see the emergence of Bank of America Merrill Lynch, and then Goldman Sachs and Morgan Stanley becoming banks, there is going to be some change in terms of the number of Õrms competing and the range of capabilities. Over time, there may be greater convergence across different securities and asset classes. Historically, equity investors focus on equity, debt investors focus on debt, high-yield investors focus on high yield. But given what’s happened in the market, there should be much more cross-selling of different securities, perhaps some innovation of new securities to Õnance companies and at the

same time appeal to a different investor base. Corporate debt in some cases is yielding 18% — that’s very equity-like, right? Why shouldn’t equity investors look at highyielding debt or preferred securities? And perhaps debt investors will look to equity warrants. You’ll see some new innovation and some new cross-selling across different securities and investors.

23

China

China launches the most IPOs despite stock market plunge
Key trends • China leads in IPO numbers and comes in second for fundraising, with markets driven by 22 privatizations of State-owned enterprises(SOEs) • Due to retail speculation and unreasonably inÖated valuations, Shanghai stock market plunges 65% which drags down IPO markets • Most (78%) of mainland issuers list in Shanghai and Shenzhen, while those with foreign holding structures (15%) prefer to list in Hong Kong or overseas • Since bank loans are difÕcult to obtain and unattractively priced, mainland companies turn to private investors for pre-IPO Õnancing, particularly private placements • Mid-sized private companies with reliable cash Öows in sectors such as food and beverage, utilities and telecommunications are likely to go public Õrst Infrastructure privatizations drive Chinese IPOs China’s largest IPO in 2008 (and the second largest globally) was the US$5.7 billion offering of China Railway Construction Corp. Ltd., followed in size by the US$1.56 billion offering of China South Locomotive & Rolling Stock Corp Ltd. Both of these top two privatizations dual-listed on the SSE and the HKEx and were trading above their offering price at the end of 2008. Most offerings from Greater China were relatively small (due to numerous smaller IPOs in Shenzhen), with an average deal size of US$141 million, a 44% decline from last year’s average of US$254 million. In 2008, 22 privatizations of SOEs in China accounted for over half (54%) of total capital raised (US$9.7 billion). The leading industries by funds raised were industrials (building/construction, transportation/infrastructure) which raised US$8.8 billion or 49% of total funds raised in Greater China; materials (metals, mining, chemicals) produced US$3.0 billion; and consumer staples (agriculture, food, textiles) yielded US$ 2.3 billion. The top sectors by number of deals in China were materials with 30 deals, industrials (26) and consumer staples (17). “While the shock to the Chinese Õnancial services sector was not as pronounced, other Chinese sectors such as real estate and manufacturing — where many factories are owned by Hong Kong businesses — have been badly affected by the Õnancial crisis,” says Rowena Chu, Chairman of Equity Capital Markets, Asia at Deutsche Bank. In 2008, mainland companies conducted 123 follow-on offerings worth US$23.6 billion while Hong Kong saw 117 follow-ons valued at US$6.5 billion.1 More Chinese follow-on offerings are expected in 2009 since investors will be recapitalizing companies across all sectors. “These sources of Õnancing are still in demand and are likely to be preferred until there is a broader market recovery,” says John Lydon, Co-Head of Equity Capital Markets Asia, at Deutsche Bank. Falling exports diminish China’s growth prospects As the world’s third largest economy, with stable economic fundamentals, and huge accumulated reserves of US$1.9 trillion, China’s government is focused on nipping the economic slowdown in the bud. Through its $586 billion Õscal stimulus package, Beijing’s goal is to stem falling stock prices, facilitate business access to bank loans, restore investor conÕdence and allow the economy to recover by the second half of 2009. China’s two-year governmental spending program targets assistance for the infrastructure, Õnance, consumer

Following an unprecedented boom in 2006-07, China’s IPO market began its dramatic decline in late 2007, about a half year before the Õnancial contagion spread into China. Speculation by retail investors and unreasonably inÖated valuations contributed to the Chinese equity fallout. By the end of 2008, the Shanghai index had fallen 65%. In 2008, the IPO markets of Greater China (the mainland and Hong Kong) generated 127 deals worth just US$17.9 billion, a decline of 51% by deal numbers and 73% fund raised from the previous year (see Figure 7, page 26). Chinese IPO activity hit a three-year low in 2008 with most IPOs trading below their offer prices. Even so, among all countries, China still ranked Õrst for number of IPOs, placed second only to the US for amount of capital raised and hosted 4 out of the top 20 IPOs in 2008. In the Õrst quarter of 2009, nine IPO deals from Greater Chinese companies raised US$ 210.7 million. Five of these deals listed on the Hong Kong Stock Exchange (HKEx) while the rest listed on exchanges outside Greater China.

1 Dealogic, Equity Capital Markets Analytics, March 2009

24

Global IPO trends report 2009

Chinese prelisted companies should use the downturn to improve their infrastructure, corporate governance, Õnancial transparency and accounting standards

goods, manufacturing and retail sectors, since these domestic sectors may be able to proÕt from the still-growing economy. However, the mood in China is becoming less than optimistic. The growth engine of China’s economy has been export industries, most of which have been crippled by the Õnancial crisis. Although domestic demand remains quite strong, it is insufÕcient to compensate for the loss in external demand. Some economists expect that weakening export demand and growing domestic unemployment will lower Chinese GDP. Most mainland issuers list at home The mainland stock exchanges became an important funding source again after a series of Õnancial reforms in 2006. However, at the peak of China’s IPO boom in mid-2007, oversubscribed Chinese IPOs and rampant retail speculation inÖated share prices and contributed to the subsequent rapid market decline. By 2008, Chinese investors clearly had lost their appetite even for blue-chip companies. Since mid-2006, high valuations and an active stock market have made it attractive for Chinese companies to list locally. Moreover, Chinese regulators discourage mainland companies from listing abroad. In 2008, 78% of mainland issuers listed domestically. Shanghai hosted 3 large IPOs valued at US$8.5 billion, while Shenzhen saw 69 smaller listings worth US$4.1 billion. In addition, China plans to launch a NASDAQ-style stock market for start-up companies called the Growth Enterprise Board (GEB) on the Shenzhen Stock Exchange. Hong Kong remains the preferred listing destination for privately owned companies with a foreign holding structure seeking to raise capital. However, only 15% of mainland issuers chose to list on the HKEx. The HKEx saw just 24 IPOs worth US$4.8 billion in 2008, a 68% decline in deal numbers and 86% decrease in funds raised compared to the previous year. Established exchanges around the world have strived to attract Chinese issuers in recent years. However, in 2008, overseas exchanges experienced a steep drop in its Chinese listings. Altogether, overseas exchanges hosted just 31 Chinese IPOs valued at US$0.9 billion, a 60% decline by number of deals and 91% drop by funds raised compared with 2007. The US exchanges were hardest hit, with only 5 Chinese deals in 2008, compared to 31 deals the previous year. Companies turn to private investors for pre-IPO Õnancing Many mainland companies are still seeking expansion capital — just away from the equity markets. However, for most mainland companies, alternative Õnancing has been difÕcult to obtain and

is unattractively priced. The primary funding sources in China are local banks and large state-owned banks. The Chinese government is encouraging banks to provide loans to small- and mid-cap businesses by cutting interest rates. Despite these efforts, however, liquidity from banks remains highly restricted. In order to obtain funds, many mainland companies must turn to private investors. “Investors such as hedge funds, private equity and venture capital Õrms are currently looking at the pre-IPO market — particularly private placements through the issuance of new shares, or the sale of existing shares,” says Lydon. Private Chinese companies may follow this pre-IPO Õnancing process now, then at a later date, raise additional capital through an IPO and then, subsequently, pursue a series of follow-on offerings. Prelisted companies are reluctant to accept hefty discounts Currently, the Chinese government is encouraging the development of both local and foreign private equity (PE) funds in order to reduce dependence on bank loans. Through signiÕcant fund investments and deregulation, Beijing seeks to attract foreign private capital funds and cultivate local, yuan-denominated PE funds focused on China’s staple industries. Some PE Õrms see current markets as an opportunity to buy into and Õnance Chinese companies at low prices. “However, there is still a large gap between what PE funds are prepared to pay and the valuations prelisted companies expect,” says Philip Leung, Ernst & Young, Far East IPO Leader. Chinese companies are not prepared to accept a large discount when offering their shares to PE Õrms. At the same time, PE funds are reluctant to offer Chinese companies as high a market valuation as would be available from a public offering. Dual-tracking Chinese entities explore M&A options Currently, many Chinese companies are taking a dual-track approach. While many unlisted Chinese companies are still preparing the IPO process to raise capital, they are also looking to grow organically by acquisitions or by forming joint ventures with overseas or domestic partners. In 2008, especially in the Õrst half, many leading Chinese SOEs and corporations made acquisitions. Despite the credit-crunchinduced slowdown, deal-makers expect that M&A activity in China will continue to grow. The Chinese government has recommended that cashrich Chinese corporations buy overseas, especially in sectors like natural resources, Õnancial services and chemicals. Once Chinese companies have completed their IPOs, they may use their capital to pursue acquisition opportunities, domestically or abroad.

25

China

Figure 7: Greater China IPO activity by year
Assuming positive US growth and that Õscal and monetary stimulus will play a role, Lydon expects a resurgence in Chinese IPO activity sometime towards the end of 2009. Chinese industries that might lead the revival are those with reliable cash Öows, like food and beverage, utilities and telecommunications, says Chu. Furthermore, although large SOES will still occasionally pursue IPOs, even more mid-sized private companies are expected to go public. “However, as an export nation, China can’t expect to make a full recovery with continued recession in the US and Europe,” observes Sutton. “Even China isn’t insulated from what I call the elephant in the room – which is the American/European consumer and the true interconnectedness of the global economy.” Companies should recruit an experienced IPO team “Mainland companies most often ask, ‘Should we start to prepare, even in such uncertain markets?’ The answer is an unequivocal yes,” says Leung. Overseas listings require Chinese governmental approval, so planning ahead of the IPO is essential. If prelisted companies begin to prepare only after the market strengthens, by the time they are ready to IPO, they would have already missed the opportunity. Prelisted companies should also use the downturn to improve their infrastructure (especially their Õnancial reporting, internal controls and internal cost management). “Improvement of corporate governance, Õnancial transparency and accounting standards has become more important,” says Leung. Dealing with the independence of the auditing committee, remuneration committee and management is a key challenge in China. Restructuring the company is also a major issue in China. Whether a Chinese company wishes to list locally or overseas, it will usually need to restructure, which takes quite a few months, especially given the domestic governmental approvals required. Recruiting experienced executives or strategic partners to guide the listing process is crucial. In successful IPOs, the top managers already have the experience to undertake the listing and operate a public company, and are functioning well in advance of the IPO event. “Take advantage of the current opportunities,” advises Sutton. “Due to recent numerous layoffs, especially in the Õnancial sector, it’s an opportunity to Õnd the right human capital (e.g., CFOs) at reasonable prices, since many of those people are now available.” Top-performing companies will then develop the compensation structures which will help to retain and motivate key talent within the organization. Philip Leung, Strategic Growth Markets Leader, Ernst & Young China

Capital raised (US$b)

Number of deals

259 183 116 144 $14
2002

175

127

$16
2003

$24
2004

$57
2005

$66
2006

$18
2007

Source: Dealogic, Thomson Financial, Ernst & Young

Figure 8: Asia PaciÕc IPO activity by year

Capital raised (US$b)

Number of deals

908 618

919 805 772 413

$32
2003

$48
2004

$51
2005

$91
2006

$97
2007

$32
2008

Source: Dealogic, Thomson Financial, Ernst & Young

The depressed valuations of developed market companies have created many enticing buying opportunities for Chinese companies. “Many of our Chinese clients that went public before summer 2008 are sitting on excess cash,” says Matthew Sutton, Professional Services, Ernst & Young China. These public companies are now looking at the opportunities to buy assets in their industries or make other strategic plans at greatly reduced prices. “By contrast, companies that did not achieve an IPO are now trying to raise additional PE capital to continue their expansion plans and to make acquisitions,” says Sutton. “However, they are having to do so on very demanding terms.” Despite promise of early recovery, China remains vulnerable “Given its resilient economy, and relatively attractive growth rates, China should be one of the earliest markets to recover”, says Lydon.
26

Global IPO trends report 2009

Ernst & Young interview

“China should be one of the earliest markets to recover”
John Lydon Co-Head of Equity Capital Markets, Asia, Deutsche Bank Rowena Chu Chairman of Equity Capital Markets, Asia, Deutsche Bank Heidi Yang Head of Corporate Advisory Group, Asia, Deutsche Bank

Ernst & Young: What’s the impact of the global Õnancial crisis on Chinese IPO markets? John Lydon: As a result of the Õnancial crisis and global recession, we have witnessed decreased activity in China’s capital markets, with both the number of IPOs and value of capital raised dropping signiÕcantly in 2008. Fewer than 30 companies listed on the Hong Kong Stock Exchange’s Main Board last year, according to Hong Kong Exchanges and Clearing data — there were some 78 companies in 2007. Having said that, we think there are still signiÕcant opportunities in equity capital markets this year, with investors likely to be focused on secondary offerings, such as rights issues. These sources of Õnancing are still in demand and are likely to be preferred until there is a broader market recovery. We retain a very positive long-term view on China, including its IPO and wider capital markets. Ernst & Young: What were the Chinese sectors most affected by the slowdown around the world? Rowena Chu: China was impacted differently from the United States by the current economic crisis. While the shock to the Õnancial services sector was not as pronounced, for example, other sectors such as manufacturing — where many factories are owned by Hong Kong businesses — were badly affected.

Ernst & Young: What’s your perspective on the quiet Hong Kong IPO markets in 2008–2009? Rowena Chu: The IPO market was quiet in Hong Kong, especially from the second quarter onward, when the trading environment further deteriorated. Despite these conditions, some key deals were completed successfully. More generally, we believe that Hong Kong’s long-term status as a key listing location for Asian companies remains unchanged. A reasonable IPO pipeline exists, and a number of Õrms have already obtained listing approval from Hong Kong Exchanges and Clearing. We have also seen a number of successful IPOs completed by smaller companies in Hong Kong, seemingly supported by friends and family. Ernst & Young: What is the current structure of Chinese pre-IPO transactions? John Lydon: Investors such as hedge funds, private equity Õrms and venture capital Õrms are currently looking at the pre-IPO market — particularly private placements through the issuance of new shares or the sale of existing shares. For non-listed Õrms, IPOs often follow this process any time from around one year afterward, and Deutsche Bank is highly active in this space regionally. Ernst & Young: When might we see a Chinese IPO recovery and what are the necessary preconditions?

John Lydon: Preconditions include a decline in volatility, a consensus that global credit markets are on the road to recovery, indications of the restoration of growth to major economies and an end to corporate earnings downgrades. It may be some time before these conditions materialize, and it may be even longer before valuations recover to the halcyon levels of 2007. Given the resilience of its economy, and growth rates that are attractive on a relative basis, we believe that China should be one of the earliest markets to recover, once these underlying prerequisites are met. In terms of timing, assuming that Õscal and monetary stimulus will play a role both globally and within the region, and with the United States potentially returning to positive growth during 2010, we may begin to see greater IPO activity in Hong Kong or China sometime towards the end of this year. A few positive signs which have already materialized include an improvement in trading conditions in recent months and more stable regional indices since around November of 2008. Ernst & Young: What’s the likely proÕle of the Õrst companies to go public in China? Rowena Chu: Companies most likely to attract investors and revive the IPO market will be higher-quality Õrms, especially those with good management and long-term growth potential. We think industries that might lead the revival are likely in such areas as food and

27

China

Investors are currently looking at the pre-IPO market, particularly private placements through the issuance of new shares or the sale of existing shares

beverage, utilities and telecoms — or others with reliable cash Öows. Looking forward, we may still occasionally see large SOES pursuing IPOs, but we expect the ratio to decline, with a greater contribution from mid-sized private companies. Ernst & Young: Will Chinese IPO markets remain dominated by local institutions and retail players, or will qualiÕed foreign investors be playing more of a role when the market recovers? Heidi Yang: I expect there to be a greater degree of foreign participation. My sense is that in 2008, it will likely be below 50%, but that is only likely to increase moving forward. Institutional investors are professionals with access to expert advice, many having already experienced peaks and troughs throughout different economic cycles. Following largescale redemptions, many institutional investors are still holding cash and are currently seeking appropriate opportunities, for example via the pre-IPO market. Hong Kong and Chinese retail investors, on the other hand, were caught off guard by the recent signiÕcant contraction of valuations. They are recovering from the shock and it may take some time before they rebuild their conÕdence. Ernst & Young: What key governmental policies might have the greatest impact on IPOs? Rowena Chu: Rather than speciÕcally targeting capital markets, I believe that the government is more concerned with caring for the economy as a whole. Key actions include Õscal and monetary measures, such as the RMB 4 trillion (US$ 580 billion)

stimulus package, potential tax reductions for certain industries, and we have also seen the government approve share issuances by two domestic companies recently. Ernst & Young: How does a prelisted Chinese company decide whether to list on Hong Kong or mainland exchanges? Heidi Yang: Recent years have been characterized by a signiÕcant number of A- plus H-share IPOs, with Chinese Õrms seeing the beneÕt of being listed in both Hong Kong and mainland China. When the market reopens and as funds start to reinvest following widespread redemptions, we think this trend is likely to continue. Listing requirements and valuations are probably two of the most important factors when Chinese Õrms decide whether to pursue H-share or A-share listings. With mainland China’s listing requirements being different from those in Hong Kong, an H-share listing could require a series of restructuring exercises for the company. From the perspective of execution, if the process will absorb too much of management’s time, or if the window is particularly short, a company might prefer to list only in mainland China. Whether competitors and peers have listed in any given exchange can play a role, and their valuations provide precedence, which can also inÖuence decisions. Ernst & Young: What will be the relationship between Hong Kong and mainland Chinese stock exchanges in the near future? Heidi Yang: Regarding the relationship between exchanges in Hong Kong and mainland China, there has been a great deal of cooperation recently. This has come

both on a transactional and policy-level basis, and has included components such as training programs and secondments for personnel. Effectively, this could demonstrate the signs of a potential convergence of listing requirements between the various exchanges, which could be seen as a positive step for the future. Ernst & Young: Are there any other key issues related to Chinese IPO activity that we haven’t yet mentioned? Heidi Yang: There are a number of very highquality Chinese companies that are waiting to come to market, many of which have started their IPO preparations already. The greatest hurdle now is that we need a market that is conducive to these Õrms being able to raise capital.

28

Global IPO trends report 2009

Emerging market companies still dominate London listings
Key trends • Emerging market companies, particularly in oil and commodities, launched seven out of ten largest IPOs • High-proÕle energy and natural resources companies go public in Õrst half, while capital markets effectively shut down in second half except for Õnancial follow-on offerings • Many public to private deals are likely as many of Europe’s mid-sized listed companies, frustrated by low stock prices, cons ider obtaining alternative equity Õnancing • Emerging markets issuers still prefer London listings, a trend likely to continue due to growing preference for more established regulatory regimes of largest exchanges • GDRs, often issued by emerging markets companies, will become more highly regulated by the FSA, with enhanced due diligence package and documentation requirements IPO markets produced seven IPOs worth $11.3 million altogether. Six of these offerings were from Poland. Western Europe’s IPO markets stagnate While some emerging market companies still launched public offerings in 2008, few Western European companies did so. UK - based companies completed only 19 small offerings worth US$0.6 billion. Together, Germany, France, Spain and Italy generated 14 IPOs, worth US$1.4 billion, a steep 94% decline in number and 95% in funds raised from 2007. Bolstered by its continuing convergence with the European Union (EU) economy and a burgeoning domestic pension fund, Poland hosted numerous (73) IPOs, all of which listed on the Warsaw Stock Exchange or its junior market, NewConnect. Totalling US$1.6 billion, most Polish offerings were small cap, except for the US$717 million offering of power company Enea which was the fourth largest European IPO. However, by the fourth quarter of 2008, the offerings momentum of the EU’s largest post-communist economy came to a halt, despite several large privatizations in the Polish pipeline. Energy companies and Õnancial follow-ons sustain IPO markets In the Õrst half of 2008, high-proÕle listings by energy and resources companies represented the vast majority of capital raised in Europe. The energy and power sector generated US$5 billion, or 37% of total capital raised in the region, followed by materials (metals, mining and chemicals) which raised US$2.9 billion and telecommunications produced US$2.5 billion. The leading sectors by IPO deal numbers were technology, with 24 deals, or 14% of the total number of deals in the region, industrials (building/construction, transportation/ infrastructure) with 24 deals and consumer products and services with 18 deals. By the second half of the 2008, Europe’s capital markets were effectively closed, except for deeply discounted follow-on offerings. Europe saw 667 follow-on offerings worth a total of US$220.1 billion.1 Over half of European follow-on issuers were banks seeking to repair their balance sheets or Õnance acquisitions, while consumer staples companies raised 13% of funds, and energy and power issuers produced 6%. Europe’s public market valuations decline Since mid-2007, public market valuations of European companies across all asset classes deteriorated. By the end of 2008, most major European indices had declined an average of 40%. “The next big hurdle is the full-year accounts, to see how many of these companies actually continue as a going concern from an accounting
1 Dealogic, Equity Capital Markets Analytics, March 2009

European IPO markets in 2008 were subdued in the face of the deep recession and global economic crisis. Tight credit markets and falling commodity prices slashed corporate earnings and dragged down most major European stock indices more than 40% by the end of the year. In 2008, 168 European IPOs generated just US$13.6 billion, a 67% decline by number of deals and 85% decline by funds raised from the previous year (see Õgure 9, page 30). The average deal size in Europe fell to US$80.9 million, down 56% from 2007. In 2008, emerging market companies, particularly from oil- and commodity-rich states, launched seven out of the ten largest European IPOs (including one from the Czech Republic, two from Russia and two from Poland). The biggest European IPO was the US$2.5 billion offering of Czech coal producer New World Resources which listed on the London, Prague and Warsaw Stock Exchanges. The next largest European IPOs were the US$2.4 billion offering by Portugal’s renewable energy company EDP Renovaveis, which listed on Euronext in Lisbon, and Turkish Telekom’s US$1.9 billion listing on the Istanbul Stock Exchange. In the Õrst quarter of 2009, European

29

Europe

Figure 9: European IPO activity by year

Figure 10: Europe, Middle East and African IPO activity by year
Capital raised (US$b) Number of deals
699 624 426 168 303 103 249

Capital raised (US$b)
528

Number of deals
508

350 288

97 $8
2003

$30
2004

$62
2005

$94
2006

$93
2007

$14
2008

$9
2003

$33
2004

$72
2005

$105
2006

$113
2007

$30
2008

Source: Dealogic, Thomson Financial, Ernst & Young

Source: Dealogic, Thomson Financial, Ernst & Young

perspective,” says Mark Jarvis, Ernst & Young UK Inbound IPO Leader. “Many companies need their second round of Õnancing. This could lead to a second round of valuation decreases again and potentially further selling their stock which would drive prices down even further.” Cash-generating businesses still attract private placements Due to the tough Õnancial climate, European companies seeking to fund growth or to monetize have put IPO plans on hold. Businesses looking to deleverage or with more immediate cash needs are considering alternative capital sources. According to Michael LynchBell, Ernst & Young’s UK IPO Services Leader, cash-generating businesses are the projects attracting earlier-round private placements. “If you look at the European IPOs that deferred, particularly the ones planned for the second half of 2008, the majority still managed to Õnd capital from institutional investors,” says Lynch-Bell. “These institutional investors discern the quality behind those assets but recognize that equity markets are not providing appropriate values right now.” Such institutions probably would have invested in these companies at IPO but in current market conditions, prefer to invest in the companies off market, so as not to be subject to the volatility. Public-to-private deals and PE-backed IPO exits in near future As European PE Õrms scrutinize opportunities to buy into quality companies at low prices, more public-to-private deals are likely. “Many of Europe’s mid-sized listed companies, frustrated by low stock prices, are evaluating coming off the market and obtaining alternative equity Õnancing instead, with a view to return to the public markets in sunnier times,” says Julie Teigland, EMEIA Strategic Growth Markets Leader, Ernst & Young. During the credit bull market, Õnancial sponsors were the IPO markets’ biggest competition, since they could purchase assets with attractively priced debt. As a result, in recent years, private equity detracted signiÕcantly from IPO volumes. “However, beyond 2009, for all asset sellers but particularly for PE, the public market will
30

be signiÕcantly more attractive versus other exit routes, now that borrowing costs for credit have become so high,” says Edward Law, Co-Head of Western Europe, Equity Capital Markets, Deutsche Bank. Despite M&A slump in 2008, upswing expected in 2009 In 2008, frigid credit markets also took their toll on M&A, making it difÕcult for acquirers to borrow money and close deals. In Europe, M&A deals worth a total of US$1.3 trillion were completed in 2008, down 30% from 2007.2 The downward trend in M&A volume is expected to continue in 2009, especially in the Õrst half. However, by the second half, more M&A deals are anticipated across all sectors — the extent of which will depend on 2008 end-of-year accounts. Lower valuations will make it easier for large companies to acquire smaller distressed businesses. Overseas issuers still prefer London When the markets reopen, emerging market companies will continue to prefer listing on the London Stock Exchange (LSE), as well as Deutsche Borse and Euronext, because of their more established regulatory regimes. The local exchanges of emerging markets will probably be less favored because of their current domestic volatility. Nonetheless, a small- to mid-cap company from Western Europe will continue to prefer a home exchange listing where it is better understood and more familiar to local investors. Despite the scarcity of Western European IPOs, London remains an attractive listings destination for overseas companies. The two largest IPOs on the LSE in 2008 were from abroad — the Czech US$2.5 billion offering of New World Resources, and the Mexican US$1.8 billion Öotation of Fresnillo, the silver mining group. The top European exchange for fundraising was the London Stock Exchange (LSE), with US$5.5 billion raised, followed by the Euronext exchange in a distant second, at US$2.5 billion and, in third place, London’s junior Alternative Investment Market (AIM), which generated just US$1 billion.
2 M&A review full year 2008, Dealogic, January 2009

Global IPO trends report 2009

Although many companies see the Õnish line as the IPO, that’s where the challenges start in terms of compliance, regulations, the investor market and management

Electronic exchanges for IPOs? In recent years, electronic exchanges have become a stronger presence in Europe. With help from falling stock markets, low-cost electronic rivals, such as Turquoise and Chi-X, have forced the LSE to reduce its fees. “Electronic exchanges have grown the marketplace — volumes are higher,” says Jarvis. “They’ve also allowed for much greater volatility. People trade quickly, easily and automatically through these systems, so you can trade 24 hours a day.” Some professionals are skeptical about whether companies and investors would risk IPOs on alternative electronic exchanges. “You need a very healthy, busy and buoyant IPO market for these alternative platform sites to Öourish,” says Lynch-Bell. “But currently investors are not risk-tolerant. These are bull market alternatives, since they provide less visibility, liquidity and disclosure.” Emerging markets GDRs will become more highly regulated Global depositary receipts (GDRs) are a type of listing used by foreign companies to raise money from investors in the United Kingdom. Issued in London, GDRs are sold only to institutional investors and are not eligible for inclusion in major indices. For example, New World Resources, the largest European IPO, listed on the LSE in a GDR format. A common misconception is that GDRs are governed in the same way as primary listings. On the contrary, GDRs are treated with a much lighter regulatory touch, having no formal Õnancial reporting requirements and requiring only compliance with EU rules — while primary listings have a tougher governance regime (the UK’s Combined Code of Corporate Governance). Indeed, many foreign Õrms issuing GDRs in London have admitted to having weak Õnancial controls. The UK Financial Services Authority (FSA) is in the process of labelling listings more clearly so that an investor will no longer be as likely to confuse a GDR with a main-market IPO. “Many GDR-type structures coming to London from emerging markets will become more highly regulated by the FSA,” says Lynch-Bell, “with speciÕc requirements for an enhanced due diligence package, a lot more documentation, greater transparency with respect to Õnancial reporting procedures — all of which will assist in Öight to quality.” Investors will be selective and company-speciÕc Many analysts believe that the Õrst companies to go public will be larger, high-quality companies from the more developed EU economies. “European investors will probably be most interested in their own domestic IPOs, in safe, familiar businesses from the countries that have strong corporate governance and a good reputation, such as the UK,” says Jarvis. By contrast, companies in

Eastern Europe, with their dependence on external Õnancing and expected deceleration in growth, will be seen by investors as riskier propositions, since companies in the East are even more exposed to market turbulence than those in the West. From an industry perspective, issuers in sectors such as utilities, telecoms, and healthcare are likely to be the Õrst to go public. Because such defensive sectors are less driven by economic cycles, these companies enjoy stronger earnings visibility and cash Öow generation. “The country or exchange of listing is not going to deÕne investment decisions, but rather, the nature of the business,” says Law. “Investors in Europe are typically investing on a pan-European basis nowadays.” Companies should strive for post-lPO operational excellence To achieve a successful IPO, companies will need to be even better prepared than before. The level of due diligence prior to IPO will be higher than in recent boom years, because of the need to satisfy higher levels of investor scrutiny. “For emerging market stories in particular, enhancing corporate governance, systems controls and transparency in transactions with related parties are key challenges,” says Lynch-Bell. While preparing for an IPO, executives should also evaluate which additional strategic transactions could enhance the value of the IPO for the company before going public. Successful companies typically undertake a transaction in advance of going public.3 These include transactions to acquire a company, to reÕnance, to reorganize the business and to strengthen competitiveness. Strategic transactions are powerful tools for accelerating development of a business. “Although many see the Õnish line as the IPO, that’s where the challenges start in terms of compliance, regulations, the investor market and management,” notes Jarvis. “When investors look to invest in new companies, they’re going to look at the recent historical performance to extrapolate that out into the future,” says Law. Since investors will continue to buy only properly managed companies in the secondary market, newlylisted companies must focus more on managing a company post-IPO and the underlying operational performance of the business. Mark Jarvis, UK Inbound IPO Leader, Ernst & Young Michael Lynch-Bell, UK IPO Services Leader, Ernst & Young Julie Teigland, Europe, Middle East, India and Africa (EMEIA) Strategic Growth Markets Leader, Ernst & Young

3 Top 10 IPO readiness challenges, A Measures that matter global study, Ernst & Young 2008

31

Europe

“Innovation and productivity have to replace leverage as the main growth engine”
Ernst & Young: In light of the Õnancial crisis, what is your outlook for the 2009 economy? George Magnus: Obviously the economic outlook is bleak, despite some recent indications that the pace of contraction may be diminishing. What will make the difference between where we are this spring of 2009 and an economic Armageddon is the competency of policy-makers. There isn’t any autonomous market mechanism that is going to regenerate the global economy. Most of my attention and focus is on central banks and governments. They are all doing unusual and sometimes unprecedented things at different speeds and with different intensities. With luck, some of these things may actually start to gain traction and we may have reached bottom in terms of the contraction in 2009 or, in some countries, the Õrst half of 2010. But I don’t really see a kind of sustainable recovery until 2010 at the earliest, possibly not even until 2011. And there’s a risk, of course, that we may have begun our own lost decade, as occurred in Japan in the 1990s. However, that doesn’t necessarily mean that Õnancial markets will be challenged for the next two or three years. They’ve been under huge pressure since the middle of 2007. Credit spreads have gone to incredibly lofty levels even for investment-grade names. Equities are very challenged, as proÕts decay, but it’s possible that some parts of the Õnancial market universe will improve during the course of 2009 ahead of greater economic stability in 2010 and 2011. The whole purpose of unorthodox and unusual policies is to increase the demand deÕciency which we’ve got lurching its way through the global economy; and to try to bring down the cost of capital and get companies and households spending again. Ernst & Young: What’s your view on IPO markets in 2009? George Magnus: From the point of view of IPOs, the next two to three years will be a period in which we are going to see lots of ownership changes in companies, and consolidation — the strong taking over the weak, the big taking over the small. There might be a lot of opportunities for new companies to list to the extent that public policy emphasizes energy, broadband, healthcare, infrastructure initiatives — such as Obama seems to be doing. This is the kind of scenario in which new technologies and new innovative capabilities are born. Ernst & Young: What effect will the new governmental policies have on the economy and equity markets? George Magnus: Well, the effects of the new policies will take time. The only way you can really have an immediate effect on the economy is with things like tax credits and grants to local authorities to stop them cutting their expenditure commitments on services. It’s very difÕcult to actually have an immediate impact on the economy. Fiscal policies, however, may not be the panacea for all countries as there are many constraints — real and imagined — over the willingness of governments to use this tool. But monetary policy in all major countries and regions in the West is now focused on increasing the quantity of money and lowering credit spreads and risk premiums. In time, this should have positive effects. However, if we can not avoid a period of sustained deÖation, equity markets will certainly not respond well. Falling nominal GDP or falling incomes or sales are very bearish outcomes for stocks. The whole deleveraging cycle has to run its course, which is a multiyear phenomenon. Government basically steps in to Õll the spending gap left by the consumer. After the contraction is over, we will probably face a further period of relatively anemic growth while the economy re-balances and new growth drivers have to be found. Ernst & Young: Do you see any lessons learned from previous market downturns that might be applicable now? George Magnus: I don’t think there’s been anything like this one since the end of World War Two, not that anybody remembers. Most business downturns go through their own process of churning. Companies go out of business, new companies, new startups come about. But most business cycles don’t go on very long. On average, business downturns last 10 months and are selfcorrecting. This is different, because this is a self-reinforcing cycle, characterized by the unwinding of the debt mountain and of asset prices built up in the last 10 years. Ernst & Young: Will companies look to acquisitions as exit alternatives to IPOs? George Magnus: There’s going to be a lot of ownership and creditor change, because this recession obviously is going to be pretty savage. There will be lots of opportunities for companies to acquire companies whose share prices or debt have tumbled to very cheap levels or for start-ups. Google and Apple, the wonder kids of today, basically got going during the restructuring of the new millenium and the 1970s, respectively.

32

Global IPO trends report 2009

Ernst & Young interview

George Magnus Senior Economic Advisor, UBS, London

Ernst & Young: What will investors be focusing on in the equity markets? George Magnus: The loss of trust in banks and in equity markets will take a long time to reverse. But unless we lapse into a sustained deÖation or succumb to more vicious Õnancial turbulence or protectionism, the economic outlook should slowly brighten. In other words, with a kind of U-shaped pattern of economic growth as I’ve described, over the next three to Õve years, gradually people will become more interested in equities again, particularly as proÕts recover and as people change their views about how companies will be rewarded. For the last 10 to 15 years, for example, companies mostly have been rewarded for servicing or Õnancing things. I think that’s going to change. Markets will see that companies will be rewarded for making things and being at the cutting edge of internet technology, green technologies or alternative energies, enhanced social programs and infrastructure development. Ernst & Young: Which geographies and sectors have a brighter outlook? George Magnus: The argument for emerging markets has not fundamentally changed, because the secular drivers of returns on capital in emerging markets still exist, although we now have to discriminate quite heavily among them. As a general principle, the idea is that these countries still have a very rapidly growing labor supply and in some cases signiÕcantly improving levels of education and productivity. These things clearly will make the returns on capital still relatively attractive. Geographically, the emerging markets will probably be reasonably buoyant parts of the world in terms of equity returns over the next 5 to 10 years.

I suspect Asian economies, including of course China and East Asia, may be the relative winners in a more restrained economic environment. But Brazil has also come a long way and its manufacturing and commodity base, along with much better economic governance, should also be attractive. By sector, it’s different. Financial services will probably decline in terms of relative importance and proÕtability. I like to think a little bit more positively about manufacturing and technology. I am quite hopeful, rather than outright optimistic about the United States among richer nations. The US

the latter may Õnd the coming deÖation very challenging politically. Ernst & Young: What will be the longerterm impact of the Õnancial crisis on the economy and capital markets? George Magnus: We’re going into a different form of globalization — more managed, basically, which may mean more coordinated, from a global governance point of view. The recent G20 meeting in London sent out some important messages in this regard. For example, it is clear that global Õnancial power has become more diffuse, moving

Now companies will be rewarded for making things and being at the cutting edge of technologies, social programs and infrastructure development, rather than for providing services or Õnancing.
Federal Reserve Chairman Bernanke and newly installed President Obama clearly have a magic opportunity to put things right over the next 2–3 years. They have the competence, and now they’ve got the authority, to really mount an assault on this deleveraging recession. New attempts may have to be made in a few months. I’m not convinced that Europe is willing to do this yet. I’m very disappointed with the response so far from Õscal authorities in Europe, particularly in Germany and France. I’m not convinced that the European Central Bank has acted quickly enough, though it seems to be changing now. The European Union has some particular problems to deal with both regarding Eastern European countries that are in economic trouble, and as far as the economies of southern Europe and Ireland are concerned. The former have a mix of serious Õnancial difÕculties, while away from the US and towards China and other developing countries. Moreover, the IMF is to be strengthened Õnancially and institutionally, so that it will exert a more important role in global and Õnancial policy. And the setting out of quite deliberate rules and guidelines for Õnancial regulation and oversight point strongly towards a more managed and regulated Õnancial environment. It is not possible to say precisely how the economic and Õnancial pieces of the global economy, will settle. In some respects the global economy may be the better for the cleansing and new governance that seem to be taking place. In other respects, the global economy may not be better, if we make large policy errors or over-react and constrain innovation and productivity – which have to replace leverage as the main growth engine. All we know is that what we’ve known in the last 10 years ain’t coming back.

33

The Middle East

The Middle East: Saudi IPO markets flourished until late 2008
Key trends • Saudi Arabia became world’s third largest IPO market in 2008, as it raised 10% of global IPO capital, and launched 4 out of the top 20 largest IPOs • After rampant retail speculation and oversubscribed IPOs, regulators postponed most IPOs in order to stabilize markets • Domestic PE investment is expected to grow, with more strategic stakes by PE funds in pre-IPO companies • Domestic institutional investors, particularly SWFs, will likely lead a recovery in Middle East as they focus more on local economies rather than high-proÕle overseas acquisitions • When pricing improves, a substantial backlog of familyowned businesses will go public largely for prestige, succession and monetization purposes the Middle East stock markets tumbled on average about 50% in 2008. “When the credit markets dried up, most of the long-term infrastructure projects had to be revaluated because the majority required external Õnancing, the availability, terms and pricing of which all changed. All of these factors conspired to affect IPO activity,” says Phil Gandier, Ernst & Young Middle East IPO Leader in Saudi Arabia. In the Õrst quarter of 2009, the Middle East hosted just two IPOs worth US$83.6 million, both from Saudi Arabia. Saudi Arabia emerges as a major player The Middle East’s largest economy and chief oil exporter, Saudi Arabia, became the world’s third largest IPO market for 2008, raising 10% of the world’s total capital raised (third only to the US and China). The top three Middle East markets for IPO fundraising in 2008 were Saudi Arabia, the United Arab Emirates and Egypt, accounting for 73%, 10% and 4% of funds raised in the region, respectively. The top three Middle East markets in IPO deal numbers were Jordan with 15 deals accounting for 29% of deal numbers in the region, Saudi Arabia (13) and United Arab Emirates (12). Making up nearly half of the US$1.1 billion total market capitalization for Gulf exchanges, Saudi Arabia’s stock exchange, the Tadawul, hosted 4 of the top 20 global IPOs in 2008. The top three Middle East IPOs were all from Saudi Arabia: the US$2.8 billion offering of Al Inma Bank, the US$2.5 billion Öotation of Ma’aden, the mining company — and the US$1.9 billion offering of Zain KSA, the mobile telecommunications company. The average Middle East IPO deal size in 2008 was about the same as the previous year, about US$259 million. In 2008, the leading Middle East sectors for fundraising were materials (metals, mining and chemicals), raising US$3.9 billion, or 30% of total capital raised in the region; Õnancial services, worth US$3.3 billion and telecommunications, valued at US$2.5 billion. By number of deals, the top sectors were Õnancial services, with 18 IPOs, or 35% of the total number of deals in the region; industrials (building/construction, transportation/infrastructure) with 12 deals and real estate with 5 offerings. After retail IPO frenzy, regulators delay new listings Since 2005, Middle East regulators have successfully encouraged local retail investors to invest heavily in IPOs. Seeking to redistribute wealth to its citizens, most Middle East government privatizations took place at par value. Even the pricing of private sector IPOs were set at attractive prices in order to stimulate demand in the capital markets. As soon as most shares listed, IPOs

For the Õrst three quarters of 2008, the IPO markets of the Middle East1 seemed relatively immune to the global Õnancial contagion. The Middle East emerged as a major IPO market in 2008, buttressed by a large backlog of IPO candidates, as well as soaring oil prices, unprecedented liquidity, proÕtable domestic markets, limited exposure to toxic assets and GDP growth of 6.5%.2 Accounting for 14% of all global fundraising, Middle East IPO markets (in particular, Saudi Arabia), produced US$13.2 billion in 51 IPOs — about the same value and volume as in 2007 (see Figure 11, page 35). New issuances were also stimulated by the stock market boom, high net worth retail investors seeking diversiÕcation of their portfolios, and an ever-growing track record of positive investor returns from previous IPOs. Not until the last quarter of 2008 did Middle East IPO activity slump signiÕcantly in response to the falling stock markets and an economy weakened by collapsed oil prices, tighter external Õnancing, the exodus of institutional investor money and overheated property markets. Typically, IPO activity tracks the secondary markets and
d Yemen and the six Gulf Cooperative Council(GCC) states: Saudi Arabia, Bahrain, Qatar, UAE, Oman and Kuwait. 2 From International Monetary Fund, Regional Economic Outlook, October 2008

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Global IPO trends report 2009

In the Middle East, the primary rationale for an IPO is to gain the prestige of being a public company, for family succession or for monetization.

Figure 11: Middle East IPO activity by year

Capital raised (US$b)

Number of deals
53 47 51

in the Middle East in 2008, 49 were listed on a home exchange. Regional IPOs, which are typically big family conglomerates or government privatizations, almost invariably take place on the local exchanges. Historically, the Middle East received very limited amounts of foreign capital. In 2008, though restraints on foreign investment were gradually easing, the region picked up around 3% of total net private capital inÖows to all developing markets — yet this was a recordsetting amount. Global investment bank players have been largely shut out, struggling to compete with local entrenched players or joint ventures with European banks long active in the region. In the future, local and regional investors will continue to be the primary capital source for new issuances. PE activity, especially pre-IPO Õnancing, expected to grow Regional private equity (PE) activity has grown to nearly 100 funds focused on the Middle East, raising US$19.5 billion in 2008.3 However, almost all Õnancial sponsor funds in the region are domestic players, most notably the Dubai government’s PE fund. Except for the Carlyle Group, none of the large foreign Õrms that are active in the region (e.g., Goldman Sachs, Merrill Lynch, Permira) have launched local PE funds. Most of the businesses in the region are still owned by families, in many cases in the third generation of operation. “Historically, these family groups acquired businesses but did not dispose of them, so there just haven’t been a large number of companies for PE funds to acquire,” says Gandier. As the family businesses start to pursue IPOs, there will be more M&A activity forthcoming. Since large family groups must often restructure prior to an IPO, more assets are coming onto the market. Although Middle East industry players expect exit opportunities and entry multiples will continue to decline, domestic PE investment in the Middle East is expected to grow in 2009. While there may be few IPOs other than some green-Õeld companies, there will likely be more pre-IPO transactions. “You may see more strategic stakes by PE funds,” says Gandier. “They have the cash and will see great opportunities in pre-IPO companies that can now be bought at lower multiples, especially where such companies had planned on an IPO for Õnancing.” Homegrown institutional investors likely to lead recovery Domestic institutional investors, particularly sovereign wealth funds (SWFs), will most likely lead in a recovery in the Middle East. These government investment funds (separately managed from ofÕcial
3 Global Private Equity Review, Preqin 2009

31

2 $1
2003

6 $1
2004

$8
2005

$9
2006

$14
2007

$13
2008

Source: Dealogic, Thomson Financial, Ernst & Young

delivered a very high Õrst day trading proÕt. As a result, most Middle East IPOs were vastly oversubscribed and performed far better than the overall markets. With Middle East equity markets down about 50% since early 2008, issuers have not been willing to accept low valuations for their businesses. Retaining their tight control of stock markets, regulators are postponing most IPOs to prevent new issuances from failing (most companies are trading below their offer prices), and to avert greater strain on depressed secondary markets. In early 2009, IPOs in the Middle East were being delayed as regulators try to stabilize volatile markets and companies wait for better pricing. Foreign investors who galvanized growth have withdrawn Middle East growth was fueled by record levels of foreign direct investment. Softening of regulations against foreign ownership restrictions helped to open up Middle East markets to international investors. Speculation on appreciation of Gulf currencies against the US dollar provided ample liquidity to banks, enabling increased credit funding to retail investors. However by mid-2008, due to the global economic downturn, overseas institutional investors and currency speculators began to withdraw funds from the Middle East. Most analysts expect that it will take some time for foreign investors to return to the region because of their domestic losses and continued volatility in emerging markets. Middle East IPOs target local investors With only local citizens able to invest in most Middle East countries, the region’s IPOs tend to be highly domestic affairs. Of the 51 IPOs

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The Middle East

currency reserves) have a return-driven function and structure similar to major institutional funds. “In the Middle East, most local institutional money comes out of SWFs,” says Jeff Singer, CEO of NASDAQ-Dubai. Traditionally, SWFs were very conservative and invested mainly in money markets. However, in recent years as SWFs accumulated wealth due to the increasing oil prices, they started to invest in alternative asset investments. The SWFs of Abu Dhabi, Kuwait, Qatar and Oman also invested heavily in the assets of Western Õnancial institutions. However, in 2008, portfolio losses sustained by the Gulf’s SWFs may approach US$400 billion, exacerbated by the fall in Western Õnancial institutions such as Merrill Lynch and Citibank. For now and for the foreseeable future, Middle East SWFs are focusing on their own local economies rather than looking overseas for highproÕle acquisitions. IPOs are sought after for prestige, succession and monetization Market stability and richer valuations will be necessary to revive local investor sentiment and encourage big family conglomerates to turn to equity capital markets as a funding source. “Family-owned businesses are happy to remain private,” says Gandier. “Now is the time to get ready, but they aren’t going to sell the family business at a discount price, especially when the main driver of the Middle East IPO is not to raise Õnance for the business.” In the rest of the world, the chief purpose of most IPOs is to raise capital and enhance growth. By contrast, in the Middle East, the primary rationale for an IPO is to gain the prestige of being a public company, for family succession or inheritance purposes, or for monetization. Moreover, “Currently, the mantra from all the different companies is, conserve cash for 2009 and keep it for 2010,” says Singer. IPO backlog bodes well for Middle East growth story Nevertheless, current economic woes in the Middle East are seen as temporary. A substantial backlog has built up, of a couple hundred Middle East companies, primarily family-owned businesses, supposedly planning their IPOs. “Only the pricing for IPOs has changed, not the strategic rationale, so these companies will come to the market when pricing improves,” says Gandier. The Õrst Middle East companies likely to go public, apart from green-Õeld companies and government privatizations, will be those from the most domestically oriented sectors, such as real estate, Õnancial services, infrastructure, petrochemicals and consumer products. With GDP expected to decelerate to about 4%4, the Middle East is not immune to the effects of the Õnancial crisis. Most countries in
4 Gross domestic product (GDP) growth rate, World Bank data, October 2008 36

the region are also grappling with domestic issues such as limited and expensive bank Õnancing and reduced economic activity as well as longer-term pressures related to inÖation, poor economic and corporate governance, geopolitical strife and high unemployment. Even so, the Middle Eastern economies are likely to be a real growth story. As the rest of the world’s economies stall, the cash-rich Middle East remains well placed to buy up cheap assets or Õnance local infrastructure developments. Their relatively light regulation and lenient tax regimes will be even bigger attractions as European and US business environments tighten under the recessionary pressures. As soon as the market pricing improves, solid fundamentals, massive Õnancial reserves and a robust IPO pipeline bode well for a promising revival of IPO markets in the Middle East, particularly in Saudi Arabia with the high number of IPO candidates in the pipeline. Prelisted companies need to improve corporate governance “Just as elsewhere, if a Middle East company wants to go public, it needs to attract both large foreign institutional investors to stabilize its stock price, as well as the local retail investors who are more speculative,” says Singer. The management team needs to communicate with institutional investors frequently and regularly, at least once a quarter, in order to achieve fair and accurate valuations. In order to attract the foreign institutional investor, a prelisted company needs to work hard to combat the Middle East’s reputation for weaker corporate governance. When preparing for their IPOs, Middle East companies need to be committed to the highest standards of corporate governance. The most challenging corporate governance issues for companies include recruiting qualiÕed independent board members, enhancing internal controls, forming a qualiÕed audit committee, implementing board meeting and reporting processes, creating management compensation structures and resolving relatedparty transaction issues.5 Philip Gandier, Middle East IPO Leader, Ernst & Young

5 Top 10 IPO readiness challenges, A Measures that matter global study, Ernst & Young 2008

Global IPO trends report 2009

Ernst & Young interview

“Local stock volatility is high since the institutional money has pulled out”
Ernst & Young: What’s your perspective on the Middle East IPO markets in 2008-09 and why does Saudi Arabia dominate? Jeff Singer: The fourth quarter of 2009 is most likely the realistic time here for when the Middle East IPO markets will open up. Real estate, Õnance and consumer products will probably be the top three areas. As you look at the Gulf, Saudi Arabia far exceeds anywhere else for fundraising, and dominates the region for IPOs. Second is the United Arab Emirates (UAE) — Abu Dhabi and the Dubai Financial Markets. Why are the Saudis so dominant? First, it’s the biggest economy. Second, you have a lot of companies that really never went public. They’ve been private for a long, long time. The stock exchange in the last few years has become a truly viable market. We’re seeing what looks like pent-up demand for companies going public. We’ll continue to see more companies out of Saudi Arabia than anywhere else in the Gulf. And I don’t think it’s anywhere near the demand that would exist if the market conditions were better than they are right now. Ernst & Young: What’s been the impact of the global Õnancial crisis for Middle East IPOs? Jeff Singer: First, the biggest driver of the economy here is the price of oil. Some national budgets were based on a US$50per-barrel price, and so below US$50 you clearly see an impact on Õnances. Second, the overall market conditions around the world affect us here. If it’s a nightmare in the United States and London, it’s at least a bad dream here in the Middle East. When you talk about the subprime problem and the toxic assets that were exported out of the US from collateralized debt obligations, it certainly affected companies here — those assets are on the Middle East bank balance sheets as well. Many banks are going to have to take writeoffs at some point on those toxic assets. That’s certainly part of the overall driver.

Jeff Singer CEO, NASDAQ Dubai

Jeff Singer: The market and the downturn are really different from any we’ve ever seen, but the fundamental lessons are the same. The companies that are getting hardest hit are the ones that have the most debt. The companies that have less leverage are doing much better. The mantra from all the different companies is, because of the credit crunch, conserve cash. That’s

Because of the credit crunch, the mantra of all the different companies is, “Conserve cash for 2009 and keep it for 2010”
Third, big foreign institutional investors pulled their money out in May, June and July 2008. Broadly speaking, the foreign institutional investor is in search of returns. Up to the Õrst half of 2008, returns in the Middle East were actually pretty strong. They were getting 20% –30% a year. Then when the economy went down and companies pulled their liquidity out of the market, the stocks dropped 50% –90% in a matter of two or three months. Foreign institutional investors will return when market sentiment improves. Until then, they’re sitting on the sidelines of the emerging markets. Fourth, the slowdown has reduced demand for Dubai construction, and in Abu Dhabi, the massive building has slowed. You’re seeing a softening in the prices, which obviously affects the overall economy. To counter this, the government is curbing supply. With the building delayed or slowed down, the prices probably won’t drop as fast as they otherwise would. Ernst & Young: How are prelisted companies raising capital during this downturn? what companies are going to do in 2009, conserve as much cash as they can and keep it for 2010. Effectively, the debt markets are currently closed. If companies don’t have to raise money, they’re not going to. If they need to raise money, debt is very expensive right now, and so they’re looking at raising money through equity. If that’s the case, then they have two choices: they can raise it from institutional investors by making large investments, like through a 144A transaction, or they can go into the public market. If they decide to go into the public market, then they have to accept that the valuations in this market are a little bit lower. A lot of companies are looking at the investor base this way: Õrst, would they make a large equity infusion, and if so, would they go public? Ernst & Young: What’s the level of private capital activity in the Middle East? Jeff Singer: There are the sovereign wealth funds in Abu Dhabi, and private equity out of the Dubai government. That’s been

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The Middle East

Middle East companies have to be extremely transparent with their investors because of their reputation for non-transparency

there and will continue to be there in 2009. There are a few major foreign private equity companies coming in, from the US and London, that have made limited investments here. But most of the local institutional money comes out of sovereign wealth funds. The institutional money out of the US is just starting to get here. I’ve asked US institutional investors who have made investments here if they plan to make Middle East investments in 2009, and the majority say yes. Ernst & Young: What role do foreign institutional investors play in the Middle East markets? Jeff Singer: As we’re seeing in the local markets right now, stock volatility is high since the institutional money has pulled out. You really need the large foreign institutional investors, who are more buy-and-hold oriented, during times like this to stabilize the price of your stock. You also need the local retail investors who are more speculative. You need to have both to clear liquidity in your company stock. To attract the foreign institutional investor, a company needs to be committed to the highest standards of corporate governance — which means independence of the board needs to be established, as well as transparency in the company’s reporting, how often it reports and what items it reports. Financial statements must be up to date and accurate, and if the company has completed acquisitions, all the information must be very accessible for the investors. In addition, the company must also be aggressive in its communications with investors. Then I think it’s going to take a fair and accurate valuation and good liquidity in the stock. But managers need to recognize that they need to do all these things.

Ernst & Young: What’s the rationale for the NASDAQ Dubai investment in 2008? Jeff Singer: Back in February 2008, when NASDAQ completed the OMX deal, it also made an investment in NASDAQ Dubai, which was then known as DIFX — now two-thirds of the company is owned by Borse Dubai and the other third is owned by NASDAQ. So we’re not called “DIFX” anymore. Our name has ofÕcially changed to “NASDAQ Dubai.” Ernst & Young: Why are there so many different stock exchanges in the Middle East, and what role does NASDAQ Dubai play? Jeff Singer: The whole Gulf region is an emerging market, and you have many, many companies competing where in an established market you might have only a few. The exchange industry is a high-Õxed-cost industry. Eventually exchanges will Õgure out the cost structure advantages of having fewer exchanges and will merge. But while we’re at an emerging status, many of the needs of the current exchanges are not fulÕlling the needs of the capital markets — which is why the DIFX was created a few years ago. So do we have too many? I’m sure we do, but I think it’s for the market to sort out. Going forward in the Middle East, I think Dubai and the UAE in general have recognized what it takes to attract the West into this region. The so-called free zones allow companies to come in and establish their regional headquarters. They make it easier to invest in your business or to set up your headquarters: you’re free of local laws and taxes. Dubai is now seen as the Õnancial and business headquarters in the Middle East and North Africa, as the most businessfriendly place in the Middle East.

Ernst & Young: Currently, what are the major challenges for Middle East companies preparing for an IPO? Jeff Singer: The challenges that a Middle East company faces are very similar to those that other companies face, except that we’re in emerging markets. So, Õrst, as companies prepare to go public in the Middle East, they have to take care that they’re going to be extremely transparent with their investors, because of the reputation in the Middle East for non transparency. The second challenge is that companies that go public and seek institutional money need to visit with those investors frequently and regularly. They can’t just be on the road show when they raise the money. The management team needs to reach out to the investors at least once each quarter. In handling the phone calls in between, they need to make sure that they make all material that’s disclosed available to the investors and make additional efforts to stay communicative. Usually companies here adhere to International Financial Reporting Standards (IFRS) in their reporting so meeting high accounting standards is not a huge hurdle. However, most of the companies here are younger companies that don’t really know what it means to be a public company. Obviously there needs to be a fair amount of training so that the companies interact with the capital markets correctly.

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Global IPO trends report 2009

Perspectives on IPO readiness

Perspectives on global IPO markets

Top 10 IPO readiness challenges: a Measures that matter global study
SM

The IPO value journey
Planning Execution Realization

1

2

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5

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10

1. Preparing for the IPO value journey 2. Keeping your options open 3. Timing the market

4. Building the right 7. Managing investor team to take you public relations and communications 5. Building your business processes and infrastructure 6. Establishing corporate governance 8. Conducting a successful IPO road show

9. Attracting the right investors and analysts 10. Delivering on your promises

Challenging markets may come and go, but companies that outperform the overall market prepare early for their IPO transaction. Businesses need to undergo many months of advanced planning, organization and teamwork before they are ready to go public. When the market timing is right, it’s the companies that are fully prepared which are best able to leverage the windows of IPO opportunity. Market outperformers treat the IPO as a long-term transformational process which brings change to every aspect of the business, organization and corporate culture. We call the process of going public, the IPO value journey (as shown above). The journey to public company status must prepare an organization not only for the deÕning moment of the IPO event, but also for a whole new phase of corporate life as a public company.

In 2008, Ernst & Young conducted a global study, called Measures that matter, that analyzes the top 10 IPO readiness challenges from the perspective of CEOs and CFOs worldwide who have already experienced success in their value journey. It also contains insights from our survey of global institutional investors, as well as the cumulative experience of Ernst & Young’s global network of IPO advisors. The key insights from this study are shown on the next page.

To download a copy of this report, please visit:
http://www.ey.com/ipomeasuresthatmatter

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Global IPO trends report 2009

Perspectives on IPO readiness

Key trends
Planning • Even in a challenging economy, companies which outperform the overall market prepare early for their transformational IPO journey, so that they are ready to launch when markets recover • Especially in an uncertain market, outperforming companies explore alternative exit strategies to an IPO, although public offerings are generally seen as providing better valuations, access to capital, visibility and credibility • Outperforming companies usually go public to Õnance their growth strategy and use their proceeds to fund acquisitions or market growth • Market outperformers start acting like public companies at least 12 months prior to the IPO by implementing critical changes to their strategic and corporate tax planning, management team, Õnancial accounting, reporting and internal control systems • Almost three-quarters of outperforming companies in our survey undertook pre-IPO transactions (e.g., debt Õnancing, corporate reorganization and equity Õnancing) to enhance the offering’s value • Although only a quarter of surveyed companies conducted acquisitions, alliances or joint ventures prior to IPO, in hindsight, many executives believe that such a pre-IPO transaction would have added shareholder value • Institutional investors base an average of 60% of their IPO investment decisions on Õnancial performance measures — in particular, growth in EPS, EDITDA and proÕtability • Institutional investors attribute an average of 40% of their IPO investment decisions to non-Õnancial measures, placing the most weight to management credibility, corporate strategy and brand strength • In their evaluation of IPO companies across different company size, institutional investors were consistent in their relative weighting of various Õnancial and non-Õnancial measures • Compared with hedge funds and mutual funds, pension funds put more emphasis on long-term Õnancial measures, (e.g., growth in EPS, proÕtability and EBITDA) and on non-Õnancial measures, (e.g., management, corporate strategy and investor relations) when making their buy/sell decisions • The executive’s choice of stock exchange depends largely on which exchange offers access to suitable institutional investors who understand their business model, greater stock liquidity and deeper institutional pools Execution • A strong management team and a highly experienced group of advisors is critical to IPO readiness execution • A strong infrastructure of people, systems, policies and procedures which enables accurate Õnancial forecasting and regulatory compliance needs to be in place before the IPO launch • According to surveyed executives, the two major accounting issues are adjusting historical Õnancial statements to comply with local and foreign reporting requirements and dealing with consolidated subsidiary Õnancial statements • Two key corporate governance challenges for surveyed executives are recruitment of qualiÕed independent board members and enhancement of internal controls • High-performing companies delegate key communication responsibilities to their investor relations team, focus on creating a high-quality road show and keep investors informed through regular communications before, during and after the IPO Realization • Market outperformers deliver shareholder value by demonstrating effective investor relations and Õnance function and, most importantly, operational excellence

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Perspectives on global IPO markets

A panel discussion: post-IPO value creation

Zhao Chenning Fountainvest, Partner

Gary Rieschel Qiming Venture Partners, Founder & Managing Director

David Su Matrix Partners, Managing Partner

Bob Partridge Ernst & Young, Moderator

This panel discussion took place at the Ernst & Young IPO Readiness Milestones conference in Beijing, China in October 2008 Bob Partridge: We often think that the Õnal end game is the IPO. However, those of us who have been through an IPO journey realize that the IPO is actually just the end of a certain phase in the lifecycle of a company. In many ways, it accelerates growth. It advances the velocity at which entrepreneurs and management teams try to create value along that transaction cycle, that lifecycle of the company. We wanted to discuss the importance of value creation post-IPO — some war stories — with some real seasoned investors who have led companies on the journey both to IPO and well beyond. What would experience tell all three of you entrepreneurs about value creation post-IPO? Gary Rieschel: No matter how many times you tell the entrepreneurs, inevitably they’re not quite as prepared as they should have been for the public market. Everyone should strive to have the team and processes in place, and to operate already as if the company is a public company. You’re training a group of private folks, like me, who are your investors or your board members, for a group of people who answer to a totally different constituency. And most times the chief executive ofÕcer, the management team,

unless they’ve been through it before, they really aren’t ready for those phone calls. They really aren’t ready for the press that treats them in not-so-favorable ways. When you’re a private company and you’re doing well, the venture capitalists help you get in media like the Red Herring, and everyone likes you. Then you’re a public company. You make one mistake and no one likes you. If you’re a private company, it’s much easier to Õx things than it is to Õx them after you’re in the public market. Zhao Chenning: Most of the time, we see Chinese entrepreneurs treat the IPO as a very important milestone. They think it’s an end game rather than the beginning of a new journey. The IPO is just a tool to bring you to the public so you have more money available to execute your business plan. It’s just another way of Õnding money to grow the company. The business plan should have been decided way ahead of the IPO. David Su: Based on our own experience, a lot of valuation is created post-IPO. For many of the companies we’ve been involved in, such as Focus Media, the valuation of the company signiÕcantly increased post-IPO. Why? Because people really believed in the story, the leadership, and transparency, and

the company had good communication skills and strong investor relationships. Bob Partridge: How is value created? Merger or acquisition is one way. Organic growth — expanding into new markets, new products, new services — is another. All of these often lead to good value creation. All of them carry a risk of failure, as well. Do you have any good experiences that would inform your views? Zhao Chenning: It really depends on, again, what’s your strategy, what’s your core competence? If you grow by successfully executing M&A opportunities, and there are still a lot of M&A opportunities, well, M&A is the right way to go. On the other hand, for a lot of successful companies we have invited today on the retail front, it’s organic growth. They’re opening new shops and spending money to strengthen their internal management systems — these could be the best ways to create value. Gary Rieschel: The core-competence point really cannot be stressed too much. That’s at the crux of any successful company. Consider Cisco. Cisco in 1993 had two assets in the company: it had a very strong engineering team that had built a proprietary communication protocol, and it had a killer direct sales force. So they began doing acquisitions. But they made a very fundamental

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Global IPO trends report 2009

Perspectives on IPO readiness

decision and didn’t deviate from using the sales capability, the channel, the customer relationship as the key in the company. Cisco then became a leader in its sector. Bob Partridge: The examples you gave are really good examples in developed countries. But one of the mistakes we often see Chinese companies make is that once they IPO, they have the money and they get off strategy. I met with somebody yesterday who was associated with a public technology company that is sitting on a lot of cash. And they asked me if I knew anything about coal mines in Australia. I asked why they would be investing in a coal mine in Australia, and they said, well, because they’ve got the money to do that. And I thought, how far off strategy could they get? So I can’t overemphasize sticking to strategy and spending time on the story regarding why we’re going to the public markets and creating a sustainable strategy that does allow for value creation right up to and well beyond the IPO. What are the challenges with making entrepreneurs understand the importance of sticking to strategy well beyond fundraising? David Su: In the past few years, many Chinese companies derived much of their net income from stock market speculation rather than their core business, which should not be their business in the Õrst place. This year that will be signiÕcantly reduced. When we work with companies and entrepreneurs, we focus on early-growth venture capital. You really have to have very strong conviction and dialogue with your investors, shareholders and stakeholders, about exactly what is the core competence and the value of the company. Who you are — the things you do, mergers and acquisitions, who you hire — all are

reÖected in the core values of your company. Many entrepreneurs don’t do this very well. They move from one hot sector to the next. But in the end they have to make the right decisions, and focus on investing in and buying companies that really tie into their core product offerings. Gary Rieschel: In the successful deals we make money on, 80% are successful because you’re going to be sold to someone else,

you’re suddenly faced with regulators post-IPO. So that whole area of corporate governance goes well beyond what many entrepreneurs would traditionally anticipate. How do good companies keep investors interested in buying shares post-IPO — this is the heart of the matter

Don’t manage investors, manage the business. Stick to strategy. Surprises generally are bad, even if you think they’re good surprises. There’s a transformation going from entrepreneur to the CEO of a public company
20% will be because you went public. A successful M&A exit is a great exit. But the really sophisticated people that pay a large amount of money for your company don’t buy a mess. If you’re cutting corners on governance, creating a lot of problems with revenue recognition inside the company — the days are over where you can expect someone to buy you out of that. Also, when someone comes to look at a company, if you’re not ready to be bought and you’re the last one in the industry standing, that may not be a good place to be. Bob Partridge: Obviously, as an accounting Õrm, we see that value creation isn’t just new business metrics. It’s the fundamentals of more good infrastructure, well managed from a cost standpoint, that’s leveragable but within a great corporate governance environment. As a private company, you’re used to being a private company and you may deal with your board and maybe an investor. But and probably why value creation is so important, isn’t it? Zhao Chenning: The most important answer to this question is, try to create value. You communicate in the most efÕcient way and transparent way to the investors. You go on a road show — not necessarily when you have your earnings announcement, but whenever there are important events, e.g., earnings announcements, the offering. That will help keep investors’ interest level in your company. Gary Rieschel: The number one job of the institutional relations people, the marketing people, the CEO, is to create and communicate a simple message about your company and what it’s doing in an early-stage investment. Number two: no surprises. Predictability is valued much more highly by institutional public investors than outperformance.

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Perspectives on global IPO markets

Our amount of capital signiÕcantly increased post-IPO because people really believed in the story, the leadership, transparency, and the company had good communication skills and strong investor relationships
David Su: Communicate performance effectively. It sounds easy but it’s certainly difÕcult to do. Investors don’t like huge surprises, either pleasant or unpleasant. Also, great companies can typically communicate their core value proposition in two or three sentences. We call it the elevator pitch. If you have to take hours and hours to explain, you’re just not going to get your retail or institutional investors very interested. There are thousands of stocks on the market. Why should they pick you? Bob Partridge: Don’t manage investors, manage the business. Stick to strategy. Surprises generally are bad, even if you think they’re good surprises. Going from entrepreneur to the CEO of a public company, there’s a transformation. David Su: Too many companies that we see in China treat the whole IPO as a destination. Typically, six to nine months beforehand, they get a good chief Õnancial ofÕcer who is going to be the communicator, the company’s face to Wall Street, the key Õgurehead for the whole public listing process. Yet most of the time, this CFO doesn’t make any key decisions with the company. And a lot of times, the moment the company hits some problems, the CFO disappears. Although CEOs may be very good at executing their businesses, what is important probably is that you really make an effort to communicate to Wall Street. The CEO can’t just leave it to the CFO and his investor relations person to do all the talking now. The leadership style will need to change a little bit because you’re under a lot more public scrutiny. Bob Partridge: This is not a short-term journey, it’s establishing something that’s sustainable, to get from a small company to a Cisco, a GE. Gary Rieschel: Say you’ve taken money from us, we’ve invested, and you’ve grown the business. Well you can work for ten years, and you can raise a billion dollars from the private equity world — then you can make a mistake in a public offering in a bad market and lose everything. The public market can take all of it away immediately. Why put yourself in that position? The insurance policy is a really strong team, and a professional way of managing that business. So you’re worth a billion dollars at IPO. But many companies in Silicon Valley and China that were worth US$1 billion at IPO are now worth US$50 million or less. And the CEO and the investors never could get their money out. There are hundreds of these companies. In China, at the time of the IPO, you’re going to be in exactly the same position as the investors. You’ll be locked up maybe for an extended period of time. It’s just not smart risk management to leave anything for chance on the team until well past the time when that window for liquidity would have occurred. You can lose everything. Bob Partridge: Do the fundamentals change for a company in the pre-IPO journey when they think about post-IPO value creation? Should they be thinking differently? David Su: Realistically you’re not going to see too much IPO activity in the next 12 to 18 months, because many of those companies’ comparables are trading at very depressed values, even compared to a lot of private equity investors. Public equity actually presents a much better value right now to a lot of those companies. If a company has capital to allow its own business to expand within the next one to two years, it should not do its IPO right now. Instead, they should think about continuing to grow, expand into other geographic regions and maybe raise some more equity Õnancing. And focus on execution. Don’t worry about public markets just yet. Get your systems and processes in place. Zhao Chenning: I agree. Focus on fundamentals. Focus on what you are doing in business rather than Õnancial gain. That’s number one. Number two, it’s actually a great time for you to observe how and why a company has failed. So watch your balance sheet, watch your strategy. Don’t do things you don’t understand. Don’t think you understand everything. Bob Partridge: Don’t invest in coal mines in Australia! Gary Rieschel: Understand your business better. If you’re in a smaller company and you have public competitors, know them better than they know themselves. Talk to their customers, talk to the analysts so that you know what you’re dealing with at the time you go out. Because you’re going to have to differentiate yourself from the competitors, and I don’t see that many people do a really great job at that.

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Global IPO trends report 2009

Perspectives on IPO readiness

The impact of MiFID on the European securities market
A lot has changed since the late 13th century, when commodity traders in Bruges conducted their business through informal meetings at the home of a Mr. Van den Beurse, which meetings subsequently transformed into the Bruges, Ghent and Amsterdam “Beurzen” or stock exchanges. Today, a one-millisecond advantage in trading applications can be worth US$100 million a year to major brokerages, The speed of light has become the limit on fast execution. Changing customers A key change is that exchanges and brokers are now in competition. Previously, exchanges thought of brokers as their customers; but now the market shows us that in fact the real customers are on the buy side. The exchanges are beginning to recognize that if they cut out the broker “middleman,” they can turn the costs of trading into revenue for themselves. There are fascinating things happening on the buy side, which the exchanges have really only just begun to pick up on. The need for human intervention on the buy side is diminishing, and smart order management systems and the rise of algorithmic trading are replacing the humble broker. Market participants believe that by 2010, up to 50% of daily trades will be algorithmic in nature — indeed, with the average order size being 10 times that on main exchanges, this seems likely. On the other hand, the rise of programs that incorporate so-called dark pools (more on these below) and accordingly facilitate block trades are a threat to exchanges. Benn Steil, Senior Fellow and Director of International Economics at the Council on Foreign Relations, poses the question, “Are exchanges not at risk that trading will evolve in such a manner that we [almost only] see peer-to-peer trading?” Changes in the European market — MiFID More recently, and in the European market, there have been dramatic changes. The Markets in Financial Instruments Directive (MiFID), came into force across the European Union (EU) on 1st November 2007. Its primary aim was to create a single market in which to conduct investment business across all EU countries, applying to all equity trades, whether on- or off-exchange. MiFID requires regulated markets, multilateral trading facilities (MTFs) and systematic internalizers (SIs) to publish the price, volume and time of a transaction as close to real time as possible and in a way that is easily accessible to other market participants. MiFID focuses on three key areas. Two of these regard on-exchange trades (using the United Kingdom as an example): 1. On-book: business transacted on the order book (e.g., automatic executions on SETS) and subsequently published by the exchange. 2. Off-book: business transacted bilaterally by intermediaries and investors, away from the order book (e.g., deals made by telephone in a SEAQ, SETSmm or SETS stock). As the transaction takes place under our rules, it will be reported to the exchange and subsequently published to the market. The third key area pertains to off-exchange trades: 3. Off-exchange transactions occur outside the exchange’s structure (i.e., over the counter), between fund managers, for example. There is no exchange involvement (of order books/rule books), and the trades are not currently published on the exchange’s data feed. Post-trade transparency One of the big changes is that MiFID requires all trades executed in a security listed on an EU-regulated market to be published, even when the trade has been executed outside of a regulated market. In other words, all on- and off-exchange business must be published. MiFID aims to facilitate greater freedom of choice with regard to execution and reporting venues. MiFID obliges individuals to publish trades in equities when not executed directly on exchange — but it gives them a choice where to publish. Thus, for the Õrst time, MiFID allows us to see what the MTFs (and the Electronic Communications Networks in the US) and dark pools are doing. Dark pools and the threat to exchanges On a wider note, deep, dark pools, dark algorithms and smart order routers are some of the biggest structural changes in equity trading to impact the US and European markets in 20 years. By some estimates, this sort of trading already accounts for 12% of American equity trades, and its frequency is expected to rise exponentially. Some analysts argue that such trading is threatening the very existence of traditional exchanges such as the New York Stock Exchange (NYSE), the London Stock Exchange (LSE) and Euronext. The wave is now sweeping through Europe via MiFID, and main exchanges like LSE and Euronext are launching their own dark pools to take on competition from their own biggest customers. The trend is moving to Japan now and is expected to Õnd its way to the rest of Asia. “European equity trading is going through the biggest structural change since the Big Bang,” says one trader. Dark pools, to put it simply, are essentially trading platforms and exchanges that match

45

Perspectives on global IPO markets

block institutional orders — bypassing the main exchanges completely in off-market deals — and that don’t publish stock quotes. It’s been made possible by increasingly sophisticated technology like algorithmic trading tools. Algorithmic trading, will by 2010 account for more than 50% of all shares that change hands in the US. Why dark pools? Since most bids and offers on, say, LSE, NYSE or NASDAQ are shown publicly, trading on these exchanges is like, as one report says, “playing poker with an open hand.” Dark pools, by contrast, guarantee absolute anonymity and secrecy to buy-side traders worried about revealing their strategies, accesses available liquidity outside the exchanges and is only reported post-trade. It is, of course, all intensely regulated and painstakingly legal — dark pools have taken off in Europe only after the introduction of MiFID. A consortium of major banks, including Citigroup, Goldman Sachs, Deutsche Bank, Merrill Lynch, UBS, Morgan Stanley and Credit Suisse has launched Turquoise, a pan-European dark-pool trading platform. In retaliation, LSE announced its own version, initially with a pre-2008 crisis tie-up with Lehman Brothers, called Baikal (named for the world’s deepest freshwater lake). Both Euronext and NYSE have dark-pool plans. There are, at last report, some 50-odd such

platforms, including Chi-X, Turquoise, Posit and CrossÕnder, and more are arriving regularly . Chi-X, the leading MTF in Europe, is believed to have 10% of the European market and 15% to 20% of the London market. Is exchange choice for IPOs affected? The question is whether the market size is expanding (whether this is 15% to 20% of the existing 100% or an increase, say 120% sized market). Stakeholders argue that the MTFs are increasing total volume, so perhaps the existing stakeholders are not losing out so much. Another question is whether the existing exchanges will create their own MTFs and buy out the new players, as happened in the US. Whatever the Õnal landscape, the central question is, will this affect the choice of exchange for IPOs? Will the cheapest, most lightly regulated market be the exchange of choice as long as the stock is captured by an MTF and can be traded across the MiFID landscape — i.e., does it matter? Well, currently it does. The initial IPO is still dependent on initial and cornerstone investors who understand the stock and business story being listed. But watch this space. Mark Jarvis, UK Inbound IPO Leader, Ernst & Young

The IPO is still dependent on initial and cornerstone investors who understand the stock and business story being listed. But watch this space.

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Global IPO trends report 2009

Perspectives on IPO readiness

Managing for success in turbulent times
Today’s complex and turbulent economic climate requires creative thinking to deal with ever-changing business issues. Sustained global economic growth has been replaced by declining asset valuations and frozen credit markets. The subprime issues in the Õnancial services sector have had an impact on nearly every facet of the economy. It is our belief that no sector of the economy will be immune from the crisis. In spite of this challenging landscape, many well-funded companies are seeking to add market share, expand product/service offerings and recruit quality people. For these businesses, the timing may be perfect to acquire competitors and complementary companies at depressed prices, gain control of a company by acquiring distressed debt and adding key employees. Companies positioned for growth Every transaction has tax implications, whether it’s an acquisition, disposal, reÕnancing, restructuring or IPO. Understanding these implications can mitigate transaction risk, enhance opportunity and provide crucial negotiation insights. From the initial due diligence, through post-deal implementation, it is crucial to consider the entire transaction lifecycle and how a particular transaction strategy might impact your business objectives. In the due diligence phase, identifying potential issues and deal breakers will increase the likelihood of a successful transaction. Moving into the deal structure phase, the focus shifts to increasing efÕciency and obtaining tax beneÕts as well as the impact of the transaction on the Õnancial statements. Planning for a successful merger of workforces, beneÕt plans, pension rollovers, facilities and other corporate services are all parts of the integration phase. The beneÕts of this kind

An approach centered on the company needs —
The tax lifecycle

Corporate and income taxes

Planning

Employer taxes

International cross-border taxes

Controversy

Company needs

Provision

Personal taxes

Transaction taxes

Compliance

Indirect taxes

Leading practice organizations focus on the complete tax lifecycle — planning, tax accounting, compliance and controversy or audit defense. The tax lifecycle is continuous — each of its elements is based on what came before and has an effect on what comes next.

of attention throughout the transaction lifecycle can signiÕcantly reduce transaction execution risk and facilitate better deal terms in the negotiation process. Tax and the IPO process In today’s business environment, tax functions must comprise more than Õling tax returns and minding regulatory issues. Leading practice organizations focus on the complete tax lifecycle — planning, tax accounting, compliance, and controversy or audit defense. The tax lifecycle is continuous — each of its elements is based on what came before and has an effect on what comes next. By focusing on the tax lifecycle, companies can strengthen their tax functions and set the

stage for future growth. This is especially important for evolving companies that want to look attractive to potential sources of capital, whether IPO, private equity or venture capital. Whether in-house or sourced to other providers, the tax function that is based on the tax lifecycle is likely to be poised for success. Because the traditional tax function was structured with a historical perspective that had tax directors looking back at the prior year’s data, it is no wonder that it was not perceived as a core part of the company’s strategic team. In today’s demanding environment, the tax processes cannot remain self-contained, and the importance of the contemporary tax function cannot be

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Perspectives on global IPO markets

overstated. Decisions made in one area have an effect on and can trigger actions in each of the others. It is ineffective to contemplate a tax-planning strategy without considering its effect on reporting, its implications for tax provisions, and its ultimate defensibility in the event of controversy. Times and circumstances have changed. Tax functions continue to remain under pressure to manage the company’s effective tax rate while maintaining “no mistakes, no surprises” controls over the company’s tax compliance and Õnancial reporting. Further, in today’s economic climate, the tax functions of many

companies are also coming under pressure to help the business’s bottom line. This means Õnding cost and efÕciency savings within the tax function itself. It also means meeting the need for cash by implementing tax planning that improves the cash tax position. Organic growth affects the tax function by adding volume and is typically easily managed. However, the growth achieved by going public or through mergers and acquisitions affects the tax function signiÕcantly. A well-integrated tax function allows a company to handle the many tax issues that arise as a result of an IPO or M&A event.

Future market leaders In today’s world, high-performance companies have moved to a model for identifying “next practices,” melding the workable approaches that others have taken in the past with their own unique circumstances and transforming them into ideas for the future. These next practices are what help companies grow — and transform good companies into great ones. James Markham, Global Strategic Growth Markets Tax Leader, Ernst & Young

DeÕnition of an IPO
IPO definition: In this report, only IPOs of operating companies are considered. An IPO is defined as: a company’s first offering of equity to the public. Comment: This report includes only those IPOs for which the data providers Dealogic, Thomson Financial and Ernst & Young offer data regarding the issue date (the day the offer is priced and allocations are subsequently made), the trading date (the date on which the security first trades) and proceeds (funds raised including any overallottment sold). Postponed IPOs or those which have not yet priced are therefore excluded. In an attempt to exclude non-operating company IPOs such as trusts or funds, companies with the following SIC codes are excluded:

• 6091: Financial companies that conduct trust, fiduciary
and custody activities

• 6732: Companies that are grant-making foundations • 6733: Asset management companies that deal with
trusts, estates and agency accounts

• 6371: Asset management companies such as health
and welfare funds, pension funds and their third-party administration as well as other financial vehicles

• 6722: Companies that are open-end investment funds • 6726: Companies that are other financial vehicles (e.g.,
investment offices)

• 6798: Companies that are REITs • 6799: Special Purpose Acquisition Companies (SPACs)

All charts are created based on the domicile nation of the issuers except for Figure 2: Global IPO activity by stock exchange (2008) on page 7, which depicts market activity by exchanges as a percentage of global deals and capital raised.

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Global IPO trends report 2009

Ernst & Young Strategic Growth Markets Area IPO Leaders
Global
Greg Ericksen . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .+ 44.20.7980.0220. . . . . . . . . . . . . . . . . . . . gregory.ericksen@uk.ey.com Gil Forer . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .+ 44.20.7980.0170. . . . . . . . . . . . . . . . . . . . . . . . . . . . . .gil.forer@ey.com

Areas
Jackie Kelley (US) . . . . . . . . . . . . . . . . . . . . . . . . . . .+ 1.949.437.0237 . . . . . . . . . . . . . . . . . . . . . . . jacqueline.kelley @ey.com Maria Pinelli (US) . . . . . . . . . . . . . . . . . . . . . . . . . . . .+ 1.212.773.0578 . . . . . . . . . . . . . . . . . . . . . . . . . . . maria.pinelli@ey.com Julie Teigland (Europe & Germany) . . . . . . . . . . . . . .+ 49.621.4208.11510 . . . . . . . . . . . . . . . . . . . . julie.teigland@de.ey.com Any Antola (France) . . . . . . . . . . . . . . . . . . . . . . . . . .+ 33.1.46.93.73.40. . . . . . . . . . . . . . . . . . . . . . . . . any.antola@fr.ey.com Philip Leung (Far East & China) . . . . . . . . . . . . . . . . .+ 86.21.62191222 . . . . . . . . . . . . . . . . . . . . . . . . philip.leung@cn.ey.com Garry Wayling (Australia) . . . . . . . . . . . . . . . . . . . . . .+ 61.2.82956436 . . . . . . . . . . . . . . . . . . . . . . . garry.wayling@au.ey.com David Wilkinson (UK) . . . . . . . . . . . . . . . . . . . . . . . . .+ 44.20.7951.2335. . . . . . . . . . . . . . . . . . . . . . . . . dwilkinson@uk.ey.com Michael Lynch-Bell (UK) . . . . . . . . . . . . . . . . . . . . . . .+ 44.20.7951.3064. . . . . . . . . . . . . . . . . . . . . . . . .mlynchbell@uk.ey.com

Acknowledgments
Project Sponsor
Greg Ericksen, Global Vice Chair, Strategic Growth Markets, Ernst & Young

Copy Editor
Russell Colton, Creative Services Group, Ernst & Young US

Research Analyst Project Leader
Gil Forer, Global Director, IPO Initiatives, Strategic Growth Markets, Ernst & Young Eva Chan, IPO Research Associate, Ernst & Young Global

Art Director and Designer
Jeffrey Wolnowitz, Senior Designer, Creative Services Group, Ernst & Young US

Author and Chief Editor
Jennifer Lee-Sims, Global Associate Director, IPO Initiatives, Ernst & Young Global

Report contributors
Lisa Carnoy, Co-Head of Equity Capital Markets, Bank of America Merrill Lynch Zhao Chenning, Partner, Fountainvest, China Rowena Chu, Chairman of Equity Capital Markets, Asia, Deutsche Bank Scott Cutler, Executive Vice President, America’s Listings, NYSE Euronext Phillip Gandier, IPO Leader, Ernst & Young Middle East Mark Jarvis, UK Inbound IPO Leader, Ernst & Young UK Jackie Kelley, Americas IPO Leader, Ernst & Young Edward Law, Co-Head of Western Equity Capital Markets, Deutsche Bank Philip Leung, Strategic Growth Markets Leader, Ernst & Young China John Lydon, Co-Head of Equity Capital Markets, Asia, Deutsche Bank Michael D. Lynch-Bell, UK IPO Services Leader, Ernst & Young UK George Magnus, Senior Economic Advisor, UBS James Markham, Global Strategic Growth Markets Tax Leader, Ernst & Young Robert Partridge, Far East Transaction Advisory Services Leader, Ernst & Young Hong Kong Maria Pinelli, Americas Strategic Growth Markets Leader, Ernst & Young Gary Rieschel, Founder & Managing Director, Qiming Venture Partners Jeff Singer, CEO, NASDAQ Dubai David Su, Managing Partner, Matrix Partners, China Matthew Sutton, Professional Services, Ernst & Young China Julie Teigland, Europe, Middle East, India and Africa (EMEIA) Strategic Growth Markets Leader, Ernst & Young Heidi Yang, Head of Corporate Advisory Group, Asia, Deutsche Bank

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Ernst & Young Assurance | Tax | Transactions | Advisory

About Ernst & Young Ernst & Young is a global leader in assurance, tax, transactions and advisory services. Worldwide, our 135,000 people are united by our shared values and an unwavering commitment to quality. We make a difference by helping our people, our clients and our wider communities achieve their potential. For more information, please visit www.ey.com. Ernst & Young refers to the global organization of member firms of Ernst & Young Global Limited, each of which is a separate legal entity. Ernst & Young Global Limited, a UK company limited by guarantee, does not provide services to clients.

About Ernst & Young’s IPO Offering Ernst & Young thrives on helping companies to deliver successful initial public offerings (IPOs). Our strategic growth markets professionals, who are dedicated to serving future market leaders worldwide, help businesses like yours evaluate the pros and cons of an IPO. We demystify the process, examine the alternatives and help prepare you for life in the public spotlight. On average, we help a company go public every business day of the year. Our market-based insights and landmark IPO retreats, held in every major market worldwide, can help your business achieve its potential. It’s how Ernst & Young makes a difference.

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© 2009 EYGM Limited. All Rights Reserved. EYG No. CY0053 CSG NY 0901-1020715
This publication contains information in summary form and is therefore intended for general guidance only. It is not intended to be a substitute for detailed research or the exercise of professional judgment. Neither EYGM Limited nor any other member of the global Ernst & Young organization can accept any responsibility for loss occasioned to any person acting or refraining from action as a result of any material in this publication. On any specific matter, reference should be made to the appropriate advisor. The views and opinions of third parties set out in this publication are not necessarily the views and opinions of Ernst & Young. Moreover, they should be seen in the context of the time they were made.

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