Friday 15 / November / 2024
London: Europe's poorly-performing initial public offering (IPO) market suddenly needs to find room for a handful of big deals. That should be an opportunity for investors to drive a hard bargain.
IPOs are down worldwide this year, as market volatility put a dampener on demand for stock-market debutantes. What sets Europe apart is the poor performance of its deals in subsequent trading, with IPOs gaining an average 5 per cent, versus 14 per cent in North America and 28 per cent in Asia. That's pretty bad considering IPO companies are meant to be sold to investors at a discount of 10 per cent to fair value.
Investors will want to know why the next European IPO should be any different. Supply is increasing. Denmark's Dong Energy is targeting a summer IPO that could reportedly value the company at 100 billion krone ($15 billion). Telefonica may seek to list UK mobile unit O2. There will be other IPOs that were postponed in January and are anxiously awaiting a window.
It's a tricky environment for Philips to be marketing one of the biggest European IPOs so far this year, selling up to 970 million euros ($1.1 billion) of shares in its lighting business. The investment case is based on demand for lighting driven by urbanisation, energy efficiency and smart lighting systems for softening the mood or turning living rooms into discos. The snag is that the bulk of the business is still in the declining market for conventional light bulbs. Last year this accounted for 92 per cent of Ebita, a common profit benchmark in this industry.
It's not clear whether sales in the new areas can counteract decline in the old. Underlying group revenue fell 3.5 per cent last year, 0.8 per cent the year before, and by 1.3 per cent year-on-year in the first quarter of 2016. Gross margins have crept up slightly but net income has been volatile.
Philips has a big competitive advantage: scale. But it's still hard to argue for a premium valuation. A trade-sale process failed to find a buyer for the company and there will be a stock overhang as the parent will over time want to sell down the 75 per cent it's retaining for now.
The top end of the price range values the equity at 3.4 billion euros and the company overall at 4.3 billion euros, including net debt but excluding pension liabilities. That's 0.6 times the 7.2 billion euros of sales forecast by UBS next year, and 10.6 times the unit's forecast operating profit of 407 million euros. In itself, this is no bargain. Established European peers trade on 1.1 times and 11.1 times respectively. Apply a 10 per cent IPO discount and that takes the deal to the lower half of the price range and a coincidentally neat equity value of 3 billion euros, or 20 euros a share.
So much for the theory. What's clear is that this IPO needs to go well. Not just for Philips — which has so much more stock to sell — but for other issuers hoping to convince investors that European IPOs will do something positive for their investment performance.
