IPO Rebirth Ahead?

BOSTON — It might not be the red-hot IPO market of years past, but the recent spate of retail initial public offering registrations — coupled with improvement in the equity arena — has given some analysts hope that activity will start to pick up.

“Now is a better time [for potential IPOs], given where the markets are and investor appetite for new public offerings,” said Michael Ascione, managing partner of Berkshire Partners, a Boston-based private equity firm, which owns a stake in footwear brand MBT.

“What’s key is that the market is actually open,” observed Thomas Del Zoppo, head of cash equities for the Americas at HSBC Securities Inc. “Now there’s a bit of fresh air coming through, compared with the depths of a year ago, when we saw the number of deals pulled or shelved reaching historic levels.”

After a slowdown that began in the fourth quarter of 2008, positive trends have started to emerge in specialty retail mergers-and-acquisitions activity, with strategic buyers taking the lead. Most notably, Amazon.com announced plans in July to acquire Zappos.com for $979 million. In the second quarter, Syms Inc. bought Filene’s Basement, while The Dress Barn Inc. agreed to acquire Tween Brands Inc. In August, online apparel retailer MyShape received $11 million in private placement funding.

Now it looks like the dormant IPO market is about to see some action. First up are some value-oriented retailers that have weathered the recession better than their upscale counterparts. In the last 10 weeks, three retailers in North America have filed statements regarding their intent to go public — two in the U.S. and one in Canada. The two Form S-1 filings with the Securities and Exchange Commission in the U.S. were Dollar General Corp. on Aug. 10 and Rue21 on Sept. 18. Dollarama is the Canadian firm that filed on Sept. 10.

And the U.S. IPO market isn’t the only one starting to simmer. Last month, two retailers outside North America unveiled plans to go public. Italy’s online retailer, Yoox, said it will list on the Italian Bourse this year, and Australia’s largest department store group, Myer, said it will return to the Australian stock market before Christmas.

Why now? First, private equity players who snapped up specialty retailers with debt might view this as a good time to exit their investments, now that the market is showing signs of life again. In addition, according to HSBC’s Del Zoppo, firms need to raise operating capital to grow their businesses, and right now the “view from the back-view mirror is looking better. They’re starting to [evaluate] the risk appetite and risk tolerance of the marketplace.”

Michael Hoffman, managing director in the retail and apparel group at Piper Jaffray Co.’s investment banking division, said he expects spring and fall ’10 to be periods of improved activity on the IPO front.

“Several companies are performing well in the downturn, while others may need their sales trends to improve. Generally, there appears to be more visibility on how the consumer is behaving at the same time we are coming up against easier same-store sales comparisons industrywide,” he said.

Hoffman added that the companies that float first will be rewarded for performing well through what has been a challenging period in the retail sector.

Not everyone is as upbeat on the potential awaiting the IPO market, however. “We are cautiously optimistic about the macro environment. We are seeing a lot of signals that the environment is improved and, to a certain extent, stabilizing,” said John Poerink, managing director at Linley Capital, a private investment firm. “We think it’s a little bit too soon right now [for the IPO market to fully bounce back]. It depends on the improvements in the stock market, and if the Dow 10,000 is a consistent trend, it will be an opportunity for the companies.”

Another banker was less enthusiastic. “We’re going to have to see a quarter or two of gross domestic product growth. And we’re going to have see fundamentals at the target companies grow on the revenue side to really demonstrate that the consumer is spending money at that individual retailer,” said Tim Shimotakahara, VP of investment banking at D.A. Davidson & Co. “Until that happens, I don’t think there’s going to be a lot of investor appetite across the board for retail IPOs. If you have a specific niche that is differentiated, or a new category or someone killing their competitors, there might be an increased appetite.”

The Footwear Equation

Just exactly how the strength of the potentially healing market will trickle down to the footwear industry remains unclear. Many firms — some currently owned by private equity — that could consider initial public offerings have other choices, too, most notably, hungry strategic buyers seeking affordable deals. And if given a choice between an IPO and an acquisition, a firm may decide it is too expensive and unappealing to be public because of the hassle of compliance hurdles, sources said.

Brian Tascher of BB&T Capital Markets summed it up like this: “You can get such good deals right now for resale [to a financial or strategic buyer] that you have no reason to access the capital markets, unless you’re overleveraged. And if you’re overleveraged, then chances are you’re not performing well,” which would make achieving an IPO essentially impossible. “The public route is for the highest-quality, growth-oriented companies.”

Putting an interesting spin on the potential for the capital markets to get busier is that some private equity firms that took stakes in footwear companies years ago could already be formulating exit strategies, depending on their goals. Typically, a private equity firm likes to exit an investment after three to five years, though sometimes as long as seven years.

Some potential target brands include Allen-Edmonds Shoe Corp., bought by Goldner Hawn Johnson & Morrison in July 2007; Rocket Dog, bought by Linley Capital, Circle Peak Capital and Golden Gate Capital in early 2007; 5.11 Tactical, purchased by TA Associates in 2007; and MBT, in which Berkshire Partners took a stake in 2007.

For Joe Pellegrini, managing director of investment banking at Robert W. Baird & Co., said the otherwise down market has highlighted the success of some niche retailers that could eventually be IPO candidates.

“When the market comes back, companies that have very well-thought-out franchises and business models and that have a good growth strategy can tap into the public markets. I’m pretty confident of that. There’s going to be a window of opportunity, and it will happen with retailers before it will happen with wholesalers,” he said.

According to Pellegrini, one smaller firm to watch is Sneaker Villa, a Philadelphia-based urban apparel and footwear retailer with 24 stores in three states, which is owned by private equity firm Rosewood Capital, an investor in Under Armour. “Whenever we see a downturn in the economy, we always see unique strategies come to the market,” said Pellegrini of Sneaker Villa. “There have always been new ways to find innovation.”

And several sources are keeping an eye on Hanover, Md.-based retailer Downtown Locker Room, which was purchased by private equity firm Bruckmann, Rosser, Sherrill & Co. in October 2005. With about 65 stores, Downtown Locker Room is “doing some exceptional things — whether brand building or the retail and merchandising — that are very unique and differentiated,” said Pellegrini. “They have a good position for an IPO at some point if they want to.”

Showing Investments Out

According to Linley Capital’s Poerink, the decision for how private equity firms exit an investment depends on how those firms “structured the transaction they made two, three, four years ago. The key question is whether they used too much leverage [debt] in the transaction.”

Those firms sitting on a lot of debt, with high fixed costs, such as expensive long-term real estate leases, and especially if they’ve had a hard time keeping sales up due to the economy, likely would not be able to show enough financial strength to merit an IPO.

And even if a particular firm has been able to remain well capitalized, they would also need to show consistent growth before considering an IPO.  “A lot of the footwear companies, and apparel in general, are rising from the ashes now and dusting themselves off. A lot of these firms will want to show a better track record and growth in the topline and bottomline numbers before they bring these assets to the market,” Poerink said.

Of his firm’s own investment, Rocket Dog, Poerink said, “We were careful with that, and in that respect, it has paid off. We were very cautious in how we structured the investment, and the company’s continuing to grow and gain market share. We see international opportunity for the brand.”

Shimotakahara noted, however, that most private equity firms typically do not exit their investments via the public market. But he said it’s important to keep in mind that the firms who are financially strong enough to access the public market via IPO will continue to reap the rewards as the market improves further.

“Going public is the first step in a very long process,” Berkshire’s Ascione agreed. “You’re only selling a portion of the business at the IPO. It’s over several years that full liquidity is gained.”

Regarding MBT specifically, Ascione said the brand “has a good economic model and ultimately, along with our partners, we will determine what we think is the best exit opportunity for the business. It could be a public company. It could be recapitalized or sold to a strategic [buyer]. If you build a company that is growing, you will hopefully have multiple ways to exit.”


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