How PIPEs, ELOCs, and Other Alternative Equity Financing Strategies Are Shaping 2024

How PIPEs, ELOCs, and Other Alternative Equity Financing Strategies Are Shaping 2024

Alternative Private Equity Financing

Global equity markets have faced significant challenges in recent years, driven by inflation, rising interest rates, and a slowing global economy. These economic factors have had profound impacts on investor sentiment and the strategies employed by public companies to raise capital. As we move through 2023, the market for initial public offerings (IPOs), which initially showed signs of recovery early in the year, remains subdued. This is partly due to ongoing concerns about inflation, economic instability, and sector-specific uncertainties, particularly within the banking industry.

While the IPO market has struggled to gain momentum, the follow-on equity markets have shown greater resilience. Many public companies, including special purpose acquisition companies (SPACs) and former SPACs, have turned to alternative equity financing structures to raise capital. These structures, such as private investments in public equity (PIPEs), at-the-market offerings (ATMs), equity lines of credit (ELOCs), and registered direct offerings, have become critical tools for companies navigating an increasingly volatile financial landscape. In this article, we explore these alternative equity financing strategies and their role in helping companies access the capital they need.

Trends in 2022 and Early 2023: A Shift Toward Alternative Equity Financing

In 2022, the equity financing landscape saw a significant shift toward alternative structures. According to data from Private Raise, a comprehensive provider of analysis on PIPE, SPAC, and shelf registration activity, an estimated 1,900 alternative equity financing transactions took place in 2022. These transactions, which included PIPEs, registered direct offerings, CMPOs, ATMs, and ELOCs, raised over $135 billion in capital.

Interestingly, the ATM and ELOC markets were particularly strong, contributing $61 billion across 700 deals in 2022. This represented nearly half of all capital raised in the follow-on equity markets that year. Excluding ATMs and ELOCs, around 1,200 PIPEs, registered directs, and CMPOs raised $74 billion.

The trend continued into the first quarter of 2023, with $33.95 billion raised through 497 deals. Once again, ATM and ELOC deals accounted for a substantial portion of this, raising $23 billion during that period.

The Role of SPACs and de-SPAC Transactions in the Market

SPACs, once seen as a revolutionary way to bring private companies public, have experienced a rollercoaster ride in recent years. Initially hailed for their efficiency in bypassing the traditional IPO process, SPACs raised billions of dollars in 2020 and 2021. However, as the market became saturated, redemption rates increased, and investors began to exercise more caution, SPAC sponsors were forced to consider alternative capital-raising methods.

In 2022, the market for de-SPAC transactions, where a SPAC merges with a private company to take it public, was heavily influenced by rising redemption rates. Many SPAC sponsors relied on PIPE deals to mitigate redemption risk, as PIPE transactions can provide crucial funding to ensure the completion of a de-SPAC merger. However, with increased redemption rates and other market factors at play, these PIPE deals often became highly structured, involving convertible debt, convertible preferred stock, and other instruments designed to provide downside protection for investors.

As SPACs and de-SPAC companies navigate these challenges, they have increasingly turned to alternative financing structures such as ATMs and ELOCs to raise capital. These structures offer greater flexibility and allow SPACs to access the market in smaller, more manageable increments.

Private Investments in Public Equity (PIPEs): A Deep Dive

Overview of PIPEs

A PIPE – Private Investment in Public Equity transaction involves a private placement of securities by a public company to accredited investors. These securities can take various forms, including common stock, convertible preferred stock, convertible debt, warrants, or other equity-linked instruments. Once issued, the securities are considered “restricted,” meaning they cannot be sold or transferred without meeting certain regulatory requirements.

Typically, securities sold in a PIPE come with an agreement from the issuer to file a resale registration statement with the Securities and Exchange Commission (SEC). This allows the investors to eventually sell the securities in the public market. If such a registration statement is not filed, investors may still be able to sell the securities under an exemption from registration, such as Rule 144 under the Securities Act of 1933, which generally allows the resale of restricted securities after a six-month holding period.

PIPE Activity and the de-SPAC Market

As mentioned earlier, the PIPE market in 2022 was closely tied to the fate of de-SPAC transactions. Many SPAC sponsors relied on PIPEs to backstop their transactions and ensure sufficient capital to complete their mergers. However, as redemption rates increased, PIPE transactions became more structured and complex. Investors sought additional protections, such as convertible securities, which could offer greater upside potential while minimizing downside risk.

Despite these challenges, PIPEs remain an attractive option for companies looking to raise capital quickly and with fewer regulatory hurdles than a traditional public offering.

Advantages of PIPE Transactions

The primary advantage of a PIPE is speed. Because it involves a private placement of securities, a PIPE transaction can be executed much more quickly than a public offering, which requires extensive filings and regulatory approvals. Additionally, PIPE transactions are highly customizable, allowing both issuers and investors to structure deals that meet their specific needs.

For companies that need to raise capital quickly or prefer to avoid the market scrutiny that comes with a public offering, PIPEs offer an efficient and flexible solution.

Considerations and Challenges

While PIPEs offer several advantages, they also come with certain trade-offs. Securities sold in a PIPE are typically priced at a discount to the market value, reflecting the fact that they are initially illiquid and restricted. This can raise the cost of capital for the issuer and increase dilution for existing shareholders.

Additionally, PIPE transactions can put downward pressure on a company’s stock price, particularly if the securities sold are convertible into common stock or come with warrants. As the market anticipates future sales of these securities, the company’s stock price may decline in response.

Another consideration is the so-called “20 percent rule,” which requires companies listed on the Nasdaq or NYSE to obtain shareholder approval if they issue securities representing 20 percent or more of their outstanding common stock at a discount to the market price.

At-the-Market Offerings (ATMs): Flexibility in Capital Raising

Overview of ATMs

An at-the-market (ATM) offering is a public equity offering where a company sells shares directly into the market at prevailing market prices. Unlike a traditional offering, which is typically conducted at a fixed price, an ATM allows the issuer to sell shares over time, raising capital as needed.

To conduct an ATM, a company must have an effective shelf registration statement on file with the SEC. The company will then enter into a distribution agreement with one or more sales agents, who will facilitate the sale of shares in the open market.

Advantages of ATMs

ATMs are an attractive option for companies that want the flexibility to raise capital on an ongoing basis. Unlike a traditional public offering, which requires a significant upfront commitment of time and resources, an ATM program can be put in place and used as needed.

For companies operating in volatile markets, ATMs offer the ability to take advantage of favorable conditions without the need for extensive advance disclosure. Additionally, because ATM shares are sold at market prices, they are not subject to the discount that is often required in other types of offerings, such as PIPEs or registered direct offerings.

Challenges and Considerations

While ATMs offer flexibility, they also come with certain regulatory and logistical requirements. A company must have a shelf registration statement in place before it can begin selling shares, and it must ensure that its public disclosures are up to date and accurate.

Additionally, the success of an ATM program depends on the availability of sufficient trading volume to absorb the shares being sold. If there is not enough liquidity in the market, the issuer may have difficulty raising capital through an ATM.

Equity Lines of Credit (ELOCs): A Tool for Smaller Companies

Overview of ELOCs

Equity lines of credit, or ELOCs, are financing agreements in which an investor agrees to purchase shares from a company over time, typically at a discount to market prices. These arrangements allow companies, particularly those with smaller market capitalizations, to raise capital as needed.

To establish an ELOC, a company and an investor will enter into a definitive agreement outlining the terms of the equity line. The company will then file a resale registration statement with the SEC, covering the shares subject to the ELOC. Once the registration statement is effective, the company can “draw” on the equity line by selling shares to the investor at predetermined intervals.

Advantages of ELOCs

ELOCs provide companies with access to capital on an as-needed basis, similar to an ATM. However, unlike an ATM, which is conducted on a commercially reasonable efforts basis, ELOCs involve a firm commitment from the investor to purchase shares. This makes ELOCs an attractive option for companies that may not have the liquidity or market presence to conduct a successful ATM offering.

Additionally, ELOCs allow companies to avoid the limitations imposed by the “20 percent rule” if the average price of the securities issued under the equity line is above the minimum price established at the time the agreement is signed.

Considerations and Challenges

ELOCs are not ideal for companies that need large, immediate infusions of capital, as the shares are sold in tranches over time. Additionally, the company must file a resale registration statement with the SEC, which can introduce additional costs and timing considerations if the company does not already have a shelf registration statement in place.

What is a Standby Equity Purchase Agreement (SEPA)?

A Standby Equity Purchase Agreement (SEPA) is a financing tool that allows publicly listed companies to raise capital by selling shares to private investors over time, rather than issuing a large block of shares all at once. This method provides companies with flexibility, enabling them to call on investors to purchase equity at opportune moments when capital is needed or market conditions are favorable.

In a SEPA, the company typically agrees to sell a certain amount of shares to the investor over a specified period, with the investor committing to purchase the shares at a discount to the market price. This arrangement provides both parties with significant advantages: the company gains access to a reliable source of capital, and the investor benefits from the ability to purchase shares at a lower cost, potentially profiting if the stock price increases.

The History of Standby Equity Purchase Agreements

The use of SEPAs has grown over the past few decades, particularly in the small-cap and mid-cap sectors, where companies often struggle to raise capital through more traditional means like public offerings or bank loans. SEPAs offer an alternative that is less disruptive to the market than a full equity raise while still providing the necessary liquidity for companies to grow and expand.

Initially popularized in the United States, SEPAs have since spread to international markets, as companies in Europe, Asia, and other regions have also embraced this flexible financing tool. As global capital markets continue to evolve, SEPAs have become an increasingly important mechanism for companies seeking to maintain growth while minimizing the impact on their existing shareholder base.

How Does a Standby Equity Purchase Agreement Work?

The mechanics of a SEPA are relatively straightforward. The company and the investor enter into an agreement that sets the terms for the purchase of shares. These terms typically include the total amount of capital the company can raise, the discount at which the investor will purchase the shares, and the duration of the agreement.

Registered Direct Offerings: A Middle Ground

Overview of Registered Direct Offerings

A registered direct offering is a public offering of securities, often a combination of common stock and warrants, that is sold directly to a select group of investors. These offerings are typically conducted under an existing shelf registration statement and marketed to institutional investors through a placement agent.

Advantages

Registered direct offerings offer a middle ground between PIPEs and traditional public offerings. Like PIPEs, they can be marketed privately to investors before the offering is announced, allowing the company to gauge investor interest without the market volatility that often accompanies a public offering.

However, unlike PIPEs, the securities sold in a registered direct offering are registered with the SEC and are therefore freely tradable upon issuance. This makes them more attractive to investors and allows the issuer to sell the securities at a smaller discount to the market price.

Challenges

While registered direct offerings offer speed and flexibility, they still come with regulatory and due diligence requirements. The issuer must have an effective registration statement on file, and the placement agent may conduct due diligence similar to that required in a traditional underwritten public offering.

Confidentially Marketed Public Offerings (CMPOs)

Overview of CMPOs

A confidentially marketed public offering (CMPO) is an offering of securities that is initially marketed privately to institutional investors before being publicly announced. This approach allows the issuer to gauge investor interest without the risk of a failed offering or market volatility.

If sufficient investor demand is identified, the offering is publicly launched, typically with a short offering period designed to attract additional investors. The CMPO structure is particularly useful for issuers looking to raise capital quickly while minimizing the risk of negative market reactions.

Advantages and Challenges

The primary advantage of a CMPO is its flexibility. If the offering is abandoned, the market is not made aware of the attempt, and the issuer avoids the potential downward pressure on its stock price. Additionally, because the securities are registered with the SEC, they can be resold immediately by investors.

However, CMPOs come with their own set of challenges. The issuer must have an effective registration statement in place, and the public offering phase must meet the applicable stock exchange requirements to qualify as a “public” offering. The compressed timelines often associated with CMPOs can also pose challenges for underwriters conducting due diligence.

Conclusion

In the current economic environment, companies looking to raise capital must carefully consider the various options available to them. While traditional IPOs have faced headwinds, alternative equity financing structures such as PIPEs, ATMs, ELOCs, registered direct offerings, and CMPOs offer flexibility and speed, making them attractive options for companies navigating volatile markets.

Each of these structures comes with its own set of advantages and challenges, and companies must weigh these factors when deciding which approach is best suited to their needs. As the market continues to evolve, these alternative financing strategies will likely remain critical tools for companies seeking to raise capital efficiently and effectively.