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By Anthony Hughes and Stephen Lacey
Feb 15 (IFR) - Stable market conditions and intensifyingcompetition among the ECM divisions of Wall Street banks haveprompted a spate of secondary offerings structured as overnight"blocks" or capital-committed trades, a sometimes controversialbut increasingly important trend that exposes banks to losses ifthey mis-price deals.
Led by last Monday's US$1.8bn block trade in hospitaloperator HCA, there have been 15 block trades -hard-underwritten deals that involve banks directly buyingparcels of shares before quickly re-offering them to investors -so far in 2013 in the US, raising US$8.7bn in total.
By volume, this is more than double the same period lastyear, suggesting that 2013 will be another big year for blocktrades if current trends continue.
"It is going to keep working until someone gets their faceblown off," said one ECM syndicate banker. "The marketed tradehas gone the way of the buggy whip."
As with the HCA deal, a significant proportion of thesetransactions involves private-equity funds as sellers seekingquickly to monetise their residual investments in companies theyhave taken public in recent years and have owned since theprevious leveraged buyout boom. A number of frequent issuers,including REITs, have also undertaken block trades to fundacquisitions.
Other notable deals in recent weeks include Apollo's sale ofa US$1.5bn stake in Dutch chemical company LyondellBasellIndustries, Bain Capital's sale of a US$500m holding inindustrial technology company Sensata Technologies,Blackstone's US$321m sale of its remaining interest in hospitalstaffing firm Team Health Holdings, and the KKR-led saleof a US$930m stake in NXP Semiconductors.
Although the shift towards risk is a continuation of ECMtrends in 2012, block trading activity is certainly acceleratingin a rising stockmarket with declining volatility and generalinvestor bullishness towards equities. Add an influx of capitalinto equity - domestic equity funds have enjoyed year to-dateinflows of US$10.8bn, according to Lipper - and the conditionsare ripe for this type of transaction.
TAKE THE CHEQUE
The 40%-plus of US follow-on stock issuance (includingforeign-domiciled companies listed in the US) conducted throughblock trades so far this year compares with 24.5% last year, 18%in 2011 and 4% in 2010.
Barclays and Citigroup have led the charge, withcapital-committed trades accounting for 41.3% and 37.1% of theirECM volumes last year, according to Thomson Reuters.
JP Morgan (15.4% of 2012 follow-on underwriting volume) andGoldman Sachs (21.3%) have in the past been less inclined toengage in block purchases, instead advocating marketed stocksales (although Goldman did lead last week's LyondellBasellblock).
"Never confuse intelligence with a bull market. You have tolook at the risk relative to your balance sheet," said a WallStreet head of ECM syndication. "We have seen appetite [to dorisk trades] go way beyond what we have ever seen before."
LEAGUE TABLES
The block trade trend is certainly controversial in ECMcircles. This is not just because of the increased risks forbanks so soon after the financial crisis, but also becauseblocks tend to be done at tight margins and are seen by some asan exercise in buying league table credit.
In part, this is because the right to buy blocks is oftenthe result of an increasingly fierce competitive biddingprocess, usually with at least three or four banks, butsometimes as many as six.
The sponsors behind hospital operator HCA have been some ofthe most visible beneficiaries. Having led a US$33bn buyout in2006, KKR and Bain Capital took the company public at thebeginning of 2011 but have already cashed out twice in the pastthree months, taking US$1.06bn on a block sale to Morgan Stanleyin December and US$1.8bn on the latest sale to Citigroup andBarclays.
The banks purchased the 50m-share block at US$35.87 andre-offered it to investors at US$36, a 1.8% discount to lastsale and a gross underwriting spread of US$6.5m or 0.4%.Happily, shares of the hospital operator traded above re-offerin the aftermarket, reflecting strong demand for hospital stockson expectations that they will benefit from healthcare reform.
"The sellers have achieved very attractive discounts, thebanks have been able to make justifiable fees and most of theblocks - not necessarily the second they trade, but a week out -have done well," another ECM head said of the recent spate ofblocks.
In some cases, a successful verdict is less obvious. MorganStanley sought to offload risks on a 15m-share purchase ofSensata Technologies on Tuesday at US$33.45, versus a last saleprice on Tuesday of US$33.70. The stock closed on Wednesday atUS$33.26 and never traded above the re-offer.
Some of the selling pressure may have come from tradersshorting the stock on the assumption that it would trade downand that they could cover their shorts in the placement.
That tactic doesn't always work - and such trading patternsdon't necessarily indicate that the banks involved are stuckwith stock. "Sometimes people attack the deal because they thinkyou're long," said one syndicate official close to thesituation. " often the deals are actually pre-sold."
A corollary of rising risk appetites is that private-equityfirms have been able to negotiate shorter lock-up agreementswith investment banks. HCA featured a 45-day restriction onfurther insider selling, shorter than the 90-day restriction ontypical follow-on offerings, while Apollo has only a 30-daylock-up on its remaining LyondellBasell holdings.
