For fund managers the grass is always greener on the other side of the fence. Public equity managers look jealously at the returns available to their private equity colleagues, while private funds covet the bigger companies in the stock market. The two groups of investors have always circled each other, but until recently have rarely come into direct competition. However, new techniques like dual-track sales and accelerated IPOs are bringing them into conflict more and more often.
This is usually good for sellers, but as Harry Wilson discovers, not everyone is convinced the new interaction is healthy for companies.
There can be few people who on their 50th birthday greet with much excitement the arrival of their first letter from Saga.
But the UK company that specialises in selling holidays, insurance and other services to the over-50s had both the public and private equity markets scrambling to get hold of it during a protracted sale process over the last 12 months.
That Saga would be popular with investors was in little doubt from the start. The company's business model has great potential ? the ageing population of the UK and the Western world in general give it a rapidly growing market for its array of products.
But when Roger De Haan, Saga's chairman and son of its founder, announced his intention to retire and sell the business in November 2003, there was little hint of the ruthless competition that was about to be let loose on the market.
Saga hired UBS to explore options for selling the business, and bankers working on the deal reiterated the standard message that they would look closely at either an IPO or a private sale.
As time progressed it became clear that Saga would not tie itself to either the private or the public market, and the company took the costly decision to run a private equity auction at the same time as a flotation.
Though no other companies have used this method this year, Saga's choice was understandable. Throughout this year support for IPOs has been highly volatile, and tying itself to the stock market would have left the company's valuation at the mercy of a fickle band of investors.
If the company had any doubts about this, the IPOs of Premier Foods and Virgin Mobile would have dsimissed them. Both deals ended up being priced in mid-July at the lower end of reduced price ranges.
At the same time, private equity firms still have many holdings they are looking to sell, leading to worries as to whether they would have enough demand for Saga to ensure a competitive auction.
Running the private equity auction and flotation simultaneously allowed Saga to extract the maximum demand from both markets.
?The dual track process definitely helps to increase proceeds in an asset sale, and allows us to play the public equity market against the private,? says James Renwick, head of corporate broking and UK ECM at UBS in London.
A dual track process is nothing new, as Ken Landsberg, a managing director at UK private equity firm ECI Partners, explains: ?It seems strange that Saga went so far with the IPO, but, in the days before private equity the old trick by companies was to run the story of a flotation to generate interest in the company from trade buyers.
?But,? Landsberg adds, ?it's a lot of bother to go to to create competition.?
In this case, the bother was worthwhile. On September 15, after a fierce bake-off between private equity bidders, Saga stated that a full listing on the London Stock Exchange was the most likely outcome.
Yet on October 4 fund managers' hopes were dashed when De Haan finally agreed to sell the business in a management buy-out backed by private equity firm Charterhouse for £1.35bn ? over £300m more than the expected valuation from an IPO.
The interesting feature of the tale, which bankers and investors have picked up on, is the increased ability of vendors to play the private equity market against the public. Indeed, public market investors have become more than willing to fight private equity funds for a cut of the best assets.
?Public equity investors have woken up to the need to be more flexible, and are being forced to act accordingly,? says Renwick. ?This is being driven by the growth in size of private equity funds, many of which now have about £10bn of assets under management ? about the same as mid-sized public equity funds. Private equity has been able to muscle in on sales that previously would have been the reserve of public equity funds.?
Public markets fight back
Private equity managers may have started to challenge public market investors on their home turf, but public fund managers are beginning to get more opportunities to take on the venture capitalists where they have traditionally been safest ? the private equity auction.
The first deal to pit the stock market directly against private equity firms in a private auction was the £389m accelerated IPO (AIPO) of Northumbrian Water, the UK utility, in May 2003.
Collins Stewart, with the financial support of Deutsche Bank, created a bidding vehicle called Aquavit to enter the auction for the sale by Suez, which Morgan Stanley was arranging. The broker then lined up a consortium of big UK fund managers to back the bid.
?The first thing we had to do was to come up with a structure that allowed us to meet the auction timetable, while also having the public equity and debt capital to back up the bid,? says Radhakrishnan. ?Then we had to convince Morgan Stanley we were credible.?
Aquavit won the auction and then refinanced its debt funding from Deutsche Bank with a swift IPO on London's Alternative Investment Market (Aim).
The transaction, which won IER's Deal of the Quarter, got investment banks thinking about how they might replicate the process, and showed stock market investors that private equity auctions were no longer closed to them.
?The first time most public equity investors would hear about an auction was when the process was completed, and the second time would be when the private equity firm returned to the market to float the asset,? says Kripa Radhakrishnan, head of corporate finance at Collins Stewart.
The crucial factor that made the AIPO possible was the London Stock Exchange's junior market, Aim. Its fast track listing procedures, which allow a flotation within 10 days, were halved with the agreement of Aim's management so that Collins Stewart could cut the time between the deal being signed and Suez getting its money.
?The AIM listing was absolutely crucial to the success of the AIPO structure,? says Radhakrishnan. ?AIM listing regulations kept the timetable for the flotation in our hands, and meant we could land the deal in the market on a particular day of our choosing.?
A new exit route
Private equity firms have not been rejoicing about the arrival of public funds in their market ? but the development could have its advantages for the industry.
Radhakrishnan says several private equity firms have approached Collins Stewart to suggest companies in their portfolios as candidates for an AIPO.
The AIPO last year of Center Parcs UK, the leisure park operator, and the flotation in July of PD Ports, which runs the port of Hartlepool, were both private equity exits.
?The key things in an IPO are certainty of price, and to exit the holding as cleanly as possible,? says Toby Boyle, head of European private equity at Henderson Private Capital in London. ?Any process that helps this is to be welcomed.?
Like an IPO, but unlike a trade or private equity sale, an AIPO also allows the seller to retain a holding in the company it is selling ? though most private equity sellers prefer to make a complete exit if possible.
An accident waiting to happen?
Despite the advantages, private equity firms remain suspicious of the intentions of banks working on AIPOs, and about the companies they have brought into the public market.
?AIPOs are being pushed by banks, and not investors, but you really need a management team to drive an IPO,? says Landsberg at ECI Partners. ?Because of the fees banks can earn, companies have been brought to the stock market which really shouldn't be there. And when things are done for the wrong reason, they tend to come unstuck.?
Some private equity specialists argue that the public markets should not be outbidding private equity firms for companies when they will not enjoy the same degree of concentrated shareholder control that would enable them to improve the management or alter the business plan. Public fund managers, they argue, have neither the time nor the expertise to knock businesses into shape.
Radhakrishnan, though, recognises the limits of the AIPO structure, and is emphatic that it is not a cure-all for the IPO process, or the equity market in general.
But, he says, the idea has taken hold in the market's imagination and expanded the range of options available to sellers.
Morgan Stanley, which held the auction for Northumbrian Water, used the principle of flipping an unlisted company from a private equity auction into the public market in its bid for UK property company Canary Wharf, albeit on a far more limited scale.
James Renwick at UBS also says the structure has its limits. ?Vendors like AIPOs, since they eliminate market risk from a flotation,? he says. ?But the structure only works with predictable businesses that don't require a lot of investor education.?
Banks and private equity firms agree that the AIPO is unlikely to be used for larger acquisitions, and that the frequency of usage is unlikely to increase dramatically.
However, structures which allow public equity to compete with private, and vice versa, are becoming firmly entrenched in the market.