The IPO market should improve in 2017, partly because it can't get much worse than in 2016.
Proceeds from U.S. IPOs in 2016 were down 37% year over year to $18.8 billion, the lowest level since 2003 produced $15.2 billion in U.S. IPO proceeds, according to a Dec. 16 report from Renaissance Capital LLC, a manager of IPO-focused exchange-traded funds. The total number of IPOs in 2016 was down 38% year over year to 105, the lowest level since 2009 produced 63 IPOs, according to the report.
The drop is a continuation of a downward trend that started in 2015. The number of deals and proceeds in the U.S. IPO market increased in 2012, 2013 and 2014, but those totals are now set to drop for the second straight year, according to Renaissance. The lack of activity negatively impacted results for investment banks, which generate their widest equity underwriting margins from IPOs.
The Renaissance report noted that the outlook in 2017 is more promising because companies that eschewed IPOs are closer to liquidity events, while policies under Donald Trump's presidential administration should help stimulate the equity markets, new company formation and profitability.
Others have also expressed optimism about IPOs in 2017, said David Ethridge, head of IPO services for PricewaterhouseCoopers' deals practice. But he added that forecasting 2017 IPOs is especially difficult because 2016 activity was abnormal.
Ethridge said that normally, IPO activity picks up after a few issuers price deals and see good returns. In 2016, the average total IPO return was an increase of 23%, the highest level in three years, according to the Renaissance report. Despite the good returns, Ethridge noted, the activity remained weak throughout the year.
"Where are the issuers?" he said. "It's been a supply constrained market, not a demand constrained market."
The uncertainty from the U.S. elections was part of the reason for the lack of IPO activity in 2016, said Lee Duran, a partner in the capital markets practice for accounting, advisory and consulting firm BDO USA. He noted that many companies remained on the IPO sidelines because they were unsure who would win the election and how the new president's policy direction would affect their sector's outlook.
Since the election, he said, more companies have started the IPO-preparing process. "We do have a lot companies that are showing interest, and they want to get going in the spring, summer of 2017," he said.
Duran said he could see energy resource companies becoming more active in the IPO market in 2017. He noted that oil prices have rebounded some, and an easing of energy regulation could come with the new administration.
Duran added that he expects increased activity from other sectors, including technology and healthcare along with some consumer sectors such as the fast casual segment of the restaurant industry. Investment bankers in the bank and thrift space also said they have seen an increase in interest from potential IPO issuers. Duran said total IPOs in 2017 could approach levels seen in 2013 and 2014, when the number of IPO pricings hit 222 and 275, respectively, according to the Renaissance report.
However, Duran said he is concerned that a geopolitical event such as new military action could slow down IPO activity. "I am little bit nervous about that because there seems to be a bit more of a hawkish attitude around the world," he said.
A potential driver that could increase IPO activity is the successful pricing of some large transactions, Duran said. Two companies that are often-mentioned IPO candidates are online rental accommodation marketplace Airbnb, which has an estimated valuation of $30 billion, and the messaging and photo-sharing app Snap Inc., which has an estimated valuation of $25 billion, according to the Renaissance report.
While larger deals can have a positive impact on IPO activity, it is unlikely that a couple of significant transactions will instantly create a spike in deals, said Alex Castelli, co-leader of the national liquidity and capital formation advisory group at the firm CohnReznick LLP. Castelli does expect improvement in IPO activity during 2017, but he believes it will come gradually.
He noted that the IPO market still has plenty of competition. In recent years, companies have delayed IPOs and chosen to access private capital instead. Castelli anticipates that many companies will have the same option in 2017.
"I don't see the amount of money in the private markets going away anytime soon," he said.
M&A should also remain a viable alternative for potential issuers in 2017, Castelli said. In 2016, there were 13 new announced acquisitions of companies on file for an IPO, according to Renaissance. In general, Castelli noted that cash balances on corporate balance sheets remain high, and plenty of companies can afford to pay high valuations because they have large infrastructures that can help take out cost from the target.
"I think we're going to continue to see strategic investors looking for growth opportunities," he said.
Still, Castelli said he is hopeful that the IPO market will produce some increased momentum toward the middle of 2017, and that it will continue into the end of the year and 2018.
PwC's Ethridge said he does see signs of health in the IPO market. For instance, he noted that indexes such as the Russell 2000 have been on an upward trend, IPOs have been coming from a greater number of sectors, and deals have been pricing in or above their expected range.
However, Ethridge is somewhat concerned that stock prices have increased too much too quickly in the wake of the U.S. elections. If there is a pullback in equity prices, investment bankers and boards of companies would have to decide whether they want to pursue an IPO with lower valuations, Ethridge said.
"That worries me a bit because a snapback would be difficult for people in terms of sentiment," he said.
Still, Ethridge said he believes IPO activity will improve in the new year.
"Absent some macro shock, I do expect '17 to be better than '16, but that's not exactly going out on a limb when you look at how poor '16 was," Ethridge said.