Going public – the revival of the IPO as an Exit route: A view from Europe

The current market

Public equity markets are back in fashion with Investors, both on the sell and the buy side.

Q2 2021 was the best second quarter for IPO deal numbers and proceeds for 20 years as global IPO volumes rose 150% and proceeds rose by 215% year-on-year.[1]

While these numbers are impressive, currently there is no end in sight. Continuing strong equity markets, ample liquidity, and the hunt for higher yields in a low interest-rate environment look to fuel an ever-increasing pipeline of new primary issuances in the foreseeable future. This can, of course, change at any time.

Private Equity (PE) funds have played a significant part in the IPO boom as very attractive public valuations – compared to private transaction pricing levels – serve as strong pull-factors to list their portfolio companies on global stock exchanges.


What’s important for Management Teams

Management Teams who – through existing Management Equity Programmes (MEP) have own “skin-in-the-game” – play a key role in IPO processes as Public Equity Investors demand transparency on (i) how key managers’ existing incentives are treated at IPO and (ii) what their future remuneration packages (i.e., STIPs/LTIPs etc.) will look like.

Details on these are published in the IPO prospectus which serves as one of the key sources for future Investors to formulate their investment case.

At the same time key managers are highly visible during the IPO build-up – they are an integral part of the “roadshow”, selling their company to the Public Market and are, hence, vital for a successful public listing.

It is important for Management Teams to understand that, while managing and executing a highly complex IPO, their own interests as existing shareholders and future public company executives, have to be safeguarded.


Current IPO structures in Europe and their impact on MEPs

The value and treatment of managers’ existing MEPs is highly impacted by the design of the IPO. In essence there are 2 typical approaches:

1. Full conversion of the current LBO structure at IPO:

  • Full conversion is arguably the most common route in connection with listing a PE-led company: A full wind-up of the existing LBO structure with all Investors receiving shares in a newly listed Company. It marks a “clear-cut” by removing any existing leverage in the capital structure: Managers become pari-passu Investors into public equity. Under most MEP agreements, an IPO is treated as an Exit. (Full/partial conversions can also happen after an IPO)
  • The collapsing of the existing structure has a (oftentimes ignored) disproportionate negative impact on the MEP. IPO discounts cannot be observed or even quantified in the public markets but everyone knows that they exist. IPO discounts can range between 5% and 30% or even more and are sometimes applied to the IPO valuations in the underwriter valuation updates at the beginning of the pre-IPO phase. Over time they are “baked” into the IPO price range and materialize depending on market demand and size of issue at the IPO.  The IPO discount can slice off a significant chunk of the value in the Ordinary Equity: The levered instrument Managers are disproportionately invested in and, hence, are more negatively impacted vs. the PE Investor. At the same time, the leverage on their MEP is lost through fully converting their shares into the newly listed Company.
  • It is essential to appreciate the economic impact of this and to open a forum to discuss solutions with the PE owner.

2. Continuation of the current LBO structure:

  • The objective in this scenario is to partially preserve the existing leverage, i.e., current shareholders (including Managers) continue to hold their equity “above” a newly formed Listed Company (in the Corporate Entity chain). They, therefore, continue to receive sale proceeds according to the LBO waterfall.
  • While the economic impact of the IPO discount is also a factor in this IPO scenario, the haircut on the value of Manager’s MEPs is not fully “crystallised”, i.e., assuming the IPO discount effect is negated post IPO (as goes the Public Market theory) managers should – relatively speaking – not be worse-off vis-à-vis their PE owner (assuming no share-sale at IPO).
  • A continuation of the current LBO structure will almost always prompt discussions with regards to whether Leaver Provisions should apply post-IPO and if so, in what shape or form.


Lock-up requirements  

To lock-in the Management Team post-IPO and provide reassurance to Public Investors, the underwriters will require key managers to enter into lock-up agreements with respect to their existing shareholdings. These can come in various shapes or forms (staggered, bullet etc.) and typically range from 6 months to possibly several years. In case of the continuation of the LBO structure a longer lock-up for management cannot be implemented as Managers receive their proceeds via the waterfall and not via sale of shares. To address this issue PE Investors sometimes ask for re-invest obligations on a net basis for certain Managers who receive proceeds prior to a typical Management lock-up period.

Overall design and details are generally subject to discussions, but it is common to allow managers to sell a certain % of their existing stake to cover dry tax liabilities in case of a conversion of the current LBO structure (as this usually represents a taxable event). However, there might also be specific instances where additional liquidity is being granted to managers depending on individual circumstances.


PublicCo Remuneration Packages for the Executive Management 

Usually, the individual components of Executive Managers’ overall compensation are (i) base salary, (ii) annual bonus (STIP), (iii) long-term incentive (LTIP) and (iv) any other benefits (such as pension allowances etc.).

Commonly, during the IPO build-up, the Remuneration Committee (consisting of representatives of the PE, the Management, and additional advisors) will be tasked to discuss and work out the overall design and structure of the future compensation scheme (including specifics such as maximum caps, achievement levels, Key Performance Indicators (KPIs) etc).

A comprehensive benchmark analysis will need to be undertaken to understand “what the current market” is and where to fit in.

Securities Laws prescribe the required contents of IPO prospectuses. While evaluating the disclosed information, Public Investors will predominantly focus on the Executive Management (i.e., future members of the Management Board) and hence expect key details to be listed in the IPO prospectus.

The overall package offered has to be attractive and sufficiently motivating for the Management while it also needs to be line with existing legal/ regulatory requirements and market practice.


Management advice in IPOs

Amid the current IPO environment, we at Jamieson have been seeing a significant rise in demand for commercial advice from C-level managers of PE owned companies that are gearing up for either a sole-IPO or a dual/triple track exit, i.e., running an IPO process alongside a PE and/or a Strategic Exit.

Drawing from our recent experience (in Europe this year we advised the Management Teams of Synlab, SUSE and InPost, while also working on current IPO processes) we have been having numerous discussions with CEO and CFOs on the current IPO market and what a public listing would mean for them.

One piece of advice – as simple as important – is that the key for a successful IPO for Management Teams (as well as for PE owners) is preparation. An open discussion by Management with their PE owners on (i) the treatment of the current MEP and (ii) a future compensation scheme should be established early on to ensure that Management‘s interests are considered and discussed.


Daniel Meschaninov is a director in the team at Jamieson and has extensive experience with IPO transactions. 

[1] According to the Ernst & Young global IPO Trends report 2021 Q2