Companies that need to raise capital in the fourth quarter of 2001 or the first half of 2002 are confronting one of the most difficult private equity fund-raising environments in the past decade. As companies seek to navigate the minefield of potential down rounds and punitive preferred stock terms such as minimum return thresholds, senior liquidation preferences and full-ratchet, anti-dilution protection provisions, many are considering the merits of hiring an investment bank to serve as a placement agent to help navigate the market’s choppy waters. These chief executive officers might be surprised to find their number of choices quite limited.
A Shrinking Field
Against the backdrop of consolidation and contraction in the investment banking industry and the precipitous declines in investment banking underwriting and mergers and acquisitions advisory fee revenues in 2001, investment banks are not as active in private placements as one might have guessed. This is due to the fact that private placement teams on Wall Street have been succumbing to the general trends in the industry. Firms such as Robertson Stephens and Thomas Weisel Partners have laid off large portions of their private placement banking staff. One major firm that had dedicated 40 professionals to the business in mid-2000 has scaled back to 15.
Due to industry consolidation, private placement businesses such as the former Donaldson, Lufkin & Jenrette’s formidable practice no longer exist. Dotcom era private placement business models such as Offroad Capital have come and gone (the Internet-based private placement agent closed its doors in September 2001. The company’s assets were purchased last month by NYPPE LLC, a company creating a marketplace to buy and sell shares in private companies private equity funds.)
With the relative lack of quality bankers and brand-name firms to whom they can turn, the best companies are finding fewer compelling choices. And in this environment, the services of private placement agents are that much more crucial. Historically placement agents have pitched to these quality companies the ability to expedite their fund-raising processes, broaden distribution and help achieve efficient market pricing for their private placements. In this difficult market environment, however, there are good companies that are not getting funded. In addition to the benefits previously mentioned, a qualified placement agent can increase the probability of a successful outcome.
Tales from the Trenches
AirPrime Inc., a producer of CDMA-based wireless data modules, software and services, completed a $43.5 million private placement on Aug. 31., which was the fourth-largest private placement in the wireless sector in 2001. In the difficult market conditions in the late summer, AirPrime and its President Anthony Gioeli were simultaneously juggling the fund-raising process and a large volume of customer orders and partner interactions.
“By running a professionally coordinated process, management’s time is maximized and existing investors can be sure that the company is achieving the best terms possible,” said Gioeli. “In terms of negotiation processes, it is helpful to have an agent with significant deal experience to lean on at critical times to help lead the negotiations or even just to use as a sounding board. Finally, having a dedicated team staying on top of all the prospects has enabled our company to continue operations with minimal disruption.”
In today’s market conditions, private financings are generally taking longer. Many venture capital firms are advising their portfolio companies that they should enter into a private placement effort braced for a six-month process at a minimum. However, while any given VC firm certainly might be investing more time on its own due diligence, there is no reason that a company should give up on the possibility of completing their financing in a more normal length of time. In a carefully managed private placement process, due to the additional bandwidth provided by a placement agent, more investor dialogues can be managed in parallel as opposed to sequentially.
Doron Aspitz, CEO of Blue Pumpkin Software, a private enterprise software company in the workforce management space, closed a $19.1 million private placement in July 2001. Noting the benefits of such an approach, Aspitz said, “Our placement agent ran a highly efficient process allowing us to get back to business rapidly. Even in the challenging market environment of 2001, the deal took less than eight weeks from kickoff of the marketing phase to the point in time at which the deal was fully circled.”
Selim Day, a partner with Wilson Sonsini Goodrich & Rosati, the Bay Area law firm which has served as company counsel to numerous private companies conducting private placements and represented Blue Pumpkin in its recent round, also cited the placement agent’s commitment to rapid timing as one of the important criteria in selecting an agent. “In tight markets where financing is difficult to obtain…a critical factor in selecting a placement agent is the agent’s ability to identify financing sources and help clients move through the term sheet, due diligence and documentation stages to a quick close,” he said.
“There is intense competition for the attention of the venture capital community. Representation by an experienced placement agent provides companies a level of validation that is critical to getting that attention. Deals really need to be sold in this market,” said Jeff Fehn, senior vice president of McDonald Investments Inc.’s growth finance group. To his point, Blue Pumpkin’s Aspitz added some more color on the specific steps his investment-banking firm took in selling the transaction. “The senior equity research analyst played an important role, helping investors understand our strong positioning and the magnitude of the workforce management market opportunity.” AirPrime’s Gioeli added: “A placement agent’s sector experience is very useful when it comes to positioning the company…and anticipating venture investor questions.”
David Rye, an IT principal at Atlas Venture in Menlo Park, noted that Atlas actively hires placement agents in later-stage situations. “We are more inclined to use placement agents in later-stage rounds because the agent usually has a broader universe of later-stage investors to target, markets the deal to crossover buyers who will also invest in a company at its IPO, establishes coverage from the appropriate research analyst, and tightly manages the fundraising process when many investors could be involved.”
Aspitz also cited the theme of investor access when he made the following comment about his March 2000 and his July 2001 private rounds “We were introduced to the highest quality investors on both coasts, and our investment bank made the introductions to our two lead investors (Van Wagoner Capital Management in 2000 and J. & W. Seligman & Co. in 2001) and a number of highly targeted financial investors that we would not have uncovered ourselves.”
Matter of Opinion
There is some difference of opinion, however, on when it is appropriate to use a placement agent, and when it is more appropriate for the company to go it alone. In cases where the company does not hire an agent, the company’s VCs often will end up effectively playing the agent role.
“In general, we rarely use placement agents in the early funding rounds of a company because…we know the majority of other early-stage players and can introduce the companies to these players ourselves, and we do not like paying a private placement fee because cash is so precious to young companies, especially in this environment,” Rye said.
Fehn has a different perspective. “Raising private equity is a very time consuming process. Even private equity firms who have historically taken on the role of agent for their portfolio companies are increasingly outsourcing this function to placement agents,” he added. “This has been driven by their need to devote more time to portfolio companies, investing their available funds, and in many cases, focusing on their funds’ strategic direction.”
John S. Kirks is a managing director with Dain Rauscher Wessels (soon to be renamed RBC Capital Markets), and head of its Equity Private Placement Group.