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The Search For Capital
Market gyrations push companies like Praegitzer Industries toward investment bankers and other funding options.
January 11, 1999
By Robert Goldfield Business Journal Staff Writer
Matt Bergeron was stymied.
The CEO of circuitboard maker Praegitzer Industries wanted to raise working capital of at least $10 million for his growing company. But shares in the publicly held Dallas corporation, like those elsewhere in the circuit board industry, were languishing during 1998's market downturn. With Praegitzer's share price recently trading below its initial offering price, Bergeron wasn't willing to proceed with a secondary stock offering.
Working with financial advisers, including Portland's Black & Co., Praegitzer considered a variety of capital-raising alternatives. Those included, each with their own variations, traditional high-yield bonds, convertible bonds and issuing trust preferred stock, a type of preferred stock that is more akin to a bond issue than to an equity offering.
Praegitzer went so far as to produce a registration statement for the trust preferred stock, but in the end decided the market conditions weren't suitable for that either.
On Dec. 28 Praegitzer announced a public offering of $10 million of convertible bonds. The bonds carry an interest rate of 9 percent, and are convertible to common stock once the shares reach $8.325 or more. They are subordinated to an interest held by a Praegitzer lender.
"You get frustrated at the bad times in the overall stock market," Bergeron said, "but you don't ever have the option of just quitting, so you work through it and take the best option and move on."
Bergeron wasn't the only Northwest executive to recently feel frustration over capital needs. With the market for initial and, to some extent, secondary, public offerings in a swoon for the past six months, many businesses had to put stock offerings on hold and find capital elsewhere. And depressed valuations on the public markets in turn lowered valuations of privately held companies, spoiling some sales but also prompting some private owners to put their business up for sale, while the getting is still good, at least relative to the past several years.
As a result, investment banking firms have experienced a spike in business as they advise clients on options for raising financing or buying and selling companies.
Veber Partners, for example, is currently shopping around six companies whose owners are interested in selling. Founder Gayle Veber said that's twice the amount of business he would ordinarily hope to be doing at this time of year.
"The break in the market, followed by the resurgence, has kind of put the fear of God in them," Veber said.
Over the years, business owners have bided their time, as valuations for their company continued to rise with the public markets, he said. Few people wanted to sell when their company would command more money in the future.
The market's fall, however, was a sharp reminder that valuations don't rise forever, and the rebound has left many smaller companies behind. So now private owners want to obtain the good price, if not the peak price, that their companies still command, rather than risk another downturn.
"The IPOs and some consolidation plays fell out of bed pretty hard," Veber said, referring to some of his clients that had aspirations of going public, or of being rolled up by an industry giant building a national presence.
One client was three days away from filing for an initial public offering, when its underwriter pulled out of the deal, Veber said. Now, with the first quarter of 1999 apparently shaping up as a new window of opportunity for IPOs, the same underwriter is back courting the client.
Another Veber client, Lon Ball, last month sold a bare majority of his organic herb farm, Trout Lake Farm LLC in Southwest Washington, to direct sales giant Amway Corp. Amway, a long-time buyer of Trout Lake produce, uses the herbs in its Nutrilite brand of food supplements. That transaction was less market-driven than some others, but Ball still chose now to part with a stake in his 20-year-old farm, after having been courted by several interested parties over the years.
Deal flow is terrific for investment banking at Black & Co., said Bruce Alexander, president of the securities and investment firm.
"We've seen a lot of creativity in the last six months, in structuring both public and private deals after the market went south," Alexander said.
Many companies that wanted to tap the public equity markets are instead making more extensive use of their bank credit lines, he said. Many others are turning to lease financing, inventory financing and receivables financing.
Some companies, in contrast, are simply doing without. Portland retailer G.I. Joe's, for example, last year filed for an IPO, but has placed it on hold. CEO Norm Daniels said the company has plenty of capital and can continue with plans to open three new stores in 1999 even without the IPO. When the IPO does occur, it will fund remodeling of several stores, he said.
Business is also brisk at investment banking firm Macadam Capital Partners, although partner Rick Durrett said the firm's mergers and acquisition work has declined and been replaced by requests to obtain capital.
What M&A work remains has been driven less by market conditions and more by conditions within clients' specific industries, he said.
"If their industries are in consolidation and they aren't expecting to be a survivor, maybe now is still a good time to be selling, because when the music stops and all the chairs are gone, they don't want to be the only one left standing."
Durrett said the amount of M&A work has decreased since the 1998 market downturn. But in general the owners of the kind of small, private companies that Macadam typically represents are too emotionally involved with their businesses to let precise market-timing guide their decision of when to sell.
"The biggest hurdle most people face is `Am I ready psychologically to sell this business and truly divorce myself from a part of my life?' Once they've made that decision, it doesn't matter so much where the Dow is, they just want to get it over with."
Durrett said Macadam and other investment bankers have found themselves steering clients in need of capital toward specialized, private capital funds, such as subordinated debt funds. Such private funds haven't seen much action for a few years but are now receiving many investment opportunities.
Valuations for private companies continue to trail their peaks from the first half of 1998, said Norm Duffett, co-owner of Orca Capital. Led most recently by a few large technology companies and internet bets, major indices like the Dow, S&P 500 and NASDAQ have all bounced back. But many smaller, publicly held technology companies, not counting internet businesses, had yet to recover by early December. That directly affected the value of private companies, so that owners were faced with the decision of whether to wait for a price recovery or to sell at a reduced price.
"The M&A activity continues to be strong," Duffett said. "There's still plenty of liquidity in the system. The challenge is that the valuations have come off their peaks."
In some situations, owners trying to grow their companies will have to sell equity stakes to obtain needed capital, whether or not the valuation is at a peak, he said. For example, one Orca client that was planning to sell a stake saw its value fall in half. But the client is proceeding with the deal at the lower price, because it needs the working capital.
Another client wanted to sell a piece of his company for $10 million. But over time, falling valuations meant the client would have to surrender a larger piece of the pie to obtain the full $10 million. That was asking too much of the client, who instead accepted $7 million for the smaller stake.
"Our (clients) are doing deals for intrinsic business reasons," not just because they're in the mood to sell, he said.
The market drop also diminished the pool of buyers, Duffett said. Companies that planned to use their stock to make acquisitions suddenly found their currency's value sharply reduced.
One company that had been preparing to buy an Orca client saw its stock drop too far to swing the deal. The companies instead negotiated a licensing agreement so that the would-be buyer could gain the use of the smaller company's technology.
Some companies that wanted to make public offerings, either on the equity or debt side, have pulled back not only due to lower valuations, but because investors now prefer companies that are in a later stage of development, said Scott Sandbo, president of Pacific Crest Securities.
That pattern, which arose in the last nine months or so, forces many companies to obtain an additional round of private financing.
The twisting roads many companies recently traveled to obtain capital may soon be straightening. With December's market surge, more and more publicly traded companies are recouping lost market capitalization.
That, in turn, is boosting valuations of private businesses. It's also leading many market observers to expect a new window to open for public stock offerings, perhaps as early as this month.
Praegitzer's Bergeron, for one, is ready and waiting. The $10 million in bond proceeds, and the improved line of credit they facilitated, will fill the capital gap for a time, he said.
But once Praegitzer shares bounce back to better levels, the company will make that stock offering.
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