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A distinctly European issue?
3i's Dr Richard Summers gives Europe's new issues markets an end-of-decade review
Will the arrival of NASDAQ - Europe herald the emergence of a truly global outlet for European IPOs? Will the London Stock Exchange's techMARK be a credible contender? Europe's new issues markets have answered many of the questions asked of them and weathered the ups and downs of the economics cycle with growing credibility. But as the new millennium begins, for every question answered, a new one emerges.
In the early 1990s, Europe had reached what amounted to a crisis in the evolution of its stock markets. The crash in 1987 still overshadowed events and there weren't enough opportunities for new firms to enter the capital markets through Initial Public Offerings (IPOs).
Many companies crossed the Atlantic to register on NASDAQ. Despite more stringent disclosure requirements and regulatory control, it offered the best route for high growth technology companies.
Across continental Europe, management had traditionally preferred to rely on family sources or the banks for most of their capital needs but this flight to NASDAQ got people thinking.
By the mid 1990s the pendulum was about to swing. Venture capitalists from the US and UK saw considerable potential in the region and at the same time, European corporate culture was beginning to undergo a change. A growing focus on the achievement of shareholder value was emerging.
Entrepreneurs with an eye for opportunity worked with governments and local financial institutions and between June 1995 and April 1997 the markets emerged, one by one: SNM, Euro NM, EASDAQ (NASDAQ's European little sister), NMAX and the Neuer Markt.
...and the floodgates were opened. The value of continental European buy-outs increased by 230% between 1995 and 1997. For many, this marked a sea change in business thinking in countries with a traditional aversion to the 'Anglo-Saxon' models for corporate restructuring and the financing of business growth.
Nowhere was that change more obvious than in Germany and it is quite clear that the success of the Neuer Markt has been paving the way for the desired change and creating a genuine equity culture. A few years ago, the only exit route was a trade sale. Now most people would look first to the Neuer Markt - that's a major change. There are some 300,000 small and medium sized businesses in Germany today which emerged in the post-war period of the 1950s and early sixties, many now facing urgent succession issues. If the business culture has indeed changed then succession through an IPO will become increasingly common.
The picture across Europe, however, is not uniform. In fact, real differences are emerging between these markets. The Neuer Markt is orientated towards IT and telecommunications and is attracting some very large businesses - showing an average market capitalisation of around EUR 350 million. AIM, however, consists largely of much smaller companies and a considerable proportion in the service sector. Meanwhile Euro NM has a distinct emphasis on the IT world and whilst EASDAQ has a broad technology focus, it recently announced it was altering its rules to permit companies in other sectors to list.
But the question remained: would these markets manage to weather its first storm? The storm came in the autumn of 1998 when the equity markets were exposed to global financial problems in Africa, Asia and Latin America and the hedge fund values in the USA and Europe collapsed?
The following spring, 3iVenturelab, an Entrepreneurship study centre which 3i set up in partnership with the business school INSEAD carried out a review of European new issues markets, recording the views of leading market officials, market makers and exchange representatives and reviewing a wide range of supporting data.
The research showed that these markets handled their first test well - with some indices out-performing the respective main markets.
And whilst trading volumes were indeed reduced, liquidity did not dry up. Neither did the much feared surge in volatility appear - when things did turn bad, these markets stayed calm.
What is equally apparent is that their existence was of major help in sustaining the cultural sea change towards shareholder value.
The 3iVenturelab report also uncovered higher than expected levels of performance and market durability, together with a number of additional positive trends.
First, in a range of interviews with companies, investment bankers, exchanges and market makers, the momentum to build and maintain these markets showed very clearly. This was demonstrably supported by institutional investors who showed an ongoing commitment to IPOs.
Second, the, report showed that there had been clear progress towards improving transparency, access and understanding. There was clearly an ongoing and healthy dialogue between investors, exchanges, market makers and other stakeholders such as accountants. There is an obvious need to achieve full transparency, genuine harmony in procedures and complete education of all parties in how to use the system. Although considerable strides had been made, the 3iVenturelab report uncovered a longer term need to build a much broader 'Equity Culture'. The institutional commitment seemed - and still seems - to be greater than the private, except in Germany where private interest was particularly strong at the outset. If the culture change can be completed, the result will be sustainable liquidity and robustness through any future periods of global economic turmoil.
The report also identified a need for improvement in listing and reporting transparency, with procedures converging across Europe quickly, or the equity culture will be tarnished and investors will be frustrated.
Interestingly, the report also suggested a need to ensure healthy competition among markets for listings. And it notes the emergence of potential competition between EASDAQ and Euro NM. Each has relative strengths and weaknesses - the de facto competition may well intensify.
Despite the notes of caution expressed in the report last year, the major trends were positive. So how has the picture changed since them?
Well, IPO activity did drop dramatically in 1998 after a frantic spring and early summer. As the report said: "The first challenge is to ensure that this pause does not turn into a stop."
Although it has not turned into a stop, parity with NASDAQ - in terms of the total coverage offered, the liquidity, the valuations and the depth of specialist sector analyst knowledge - still remains a distant and, in the immediate term, unrealistic objective.
Over the last year market focus in London seemed to have shifted back towards the big, heavily traded stocks although there are some signs of more interest emerging at the beginning of 2000.
Activity in Germany, whilst still remaining very productive, has been somewhat less frantic than at first. In mid '98 the Neuer Markt was roaring ahead with an explosion of retail interest. Now it is back in line and greater quality control seems to be being exerted in the IPOs that emerge.
In France, the Nouveau Marchˇ, whilst proving itself a strong, sustainable national market, has nevertheless seen some flattening in its growth curve over the last year.
And while all the markets have indeed weathered the storm of summer 1998, there has as yet been no emergence of a powerful, credible, distinctly European answer to NASDAQ.
But just like the young, fast growing , fast changing companies and industry sectors in which they do so much business, these new markets are also subject to substantial dynamic forces.
With liquidity and valuation remaining the key drivers, there is still no clear answer to the question 'where is the European equivalent of NASDAQ?'
As the 3iVenturelab report identified, whilst European equity culture may be changing, these are still very early days and many European institutions have until recently only been allowed to invest in bonds and government loans. Equally, and perhaps most significantly, without a single language, let alone a homogeneous equity culture, Europe must inevitably find it harder to focus quite as much analyst expertise in one market, at so may specialist sectors. Time will tell whether the will exists to create that focus.
Nevertheless, the culture has changed - fast growth companies are emerging across the continent and new market solutions are being developed in response. The latest two to be announced may become significant - the next year should tell.
The first of these is the London Stock Exchange techMARK - a market for technology companies. It is the long awaited and much discussed response of the city to the flight to NASDAQ. The delay of that response speaks for itself - London has been slow to react and only time will tell whether techMARK is a serious market - or merely an index.
Certainly techMARK should benefit from the London Stock Exchange's more flexible approach to listing - the Internet Service Provider Freeserve (which still hedged its bets by also listing on NASDAQ), was the first company to take advantage of these new rules. And certainly, there is within London a proven pool of talent and entrepreneurial skills.
But it is still too early to come to any judgement on techMARK. It has not been very heavily marketed and, by including both the very large and the very small companies, the clarity of its aims have been drawn into question. As ever, liquidity and valuations will decide the minds of the global sponsors charged with obtaining the best home for their listing.
NASDAQ Europe is planned for launch in the autumn of 2000 but is expected to use a different trading system to the one in the US. Although the idea is that the highly successful original NASDAQ-type market infrastructure can be replicated in Europe, the question remains - can US investor culture be replicated? NASDAQ Europe should give European companies better access to US investors and may encourage European institutions to invest in these stocks.
Many questions remain to be answered: For instance, can EASDAQ, in its current form, survive if faced with competition from a successful NASDAQ Europe? One thing is certain, the pan European picture will not resolve itself immediately. The Neuer Markt does seem to be developing into a German NASDAQ. Nouveau has a large number of companies "traded" but many are very small and proprietorial, limiting liquidity and analyst coverage. Meanwhile the City of London is sophisticated but slow to react to pressures such as joining Euro NM. The differences of view also continue between the London and Frankfurt Stock Exchanges.
All of which should not divert us from a simple fact - there is now even more choice for a venture capital exit route. Companies in the new rapid-growth sectors across Europe are actually better placed than ever. Competition between the various national markets, fuelled by the emergence of new players and perhaps the demise of some old ones, can be set within the positive context of a growing appreciation, both of the opportunities involved in these business sectors, and the means necessary to bring them to investors.
More venture capital invested in Europe in turn fuels the new issue markets and our experience at 3i confirms this. Listings of 3i backed companies like Dr Solomons, the first company onto EASDAQ; ED2, one of the first onto the Nouveau Marchˇ; and Mobilcom, the first to list on the Neuer Markt are good examples. In the last three years 3i has floated over 30 companies on these new markets.
A strong supply of private equity and accessible public markets are key in the reorganisation and revitalisation of business structures in continental Europe. If the 3iVenturelab report's findings are heeded, the development of these markets will continue to play a major role in the restructuring of European industry as we enter the new millennium.
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