Playing the IPO Market: Knowing When to Look Under the Hood

Francis Gaskins  |

In this week's interview with Francis Gaskins, takes a look at a few interesting names coming down the pipeline, and a few recent notable debuts. One interesting name that may have investors excited is Sprouts Farmers Market, LLC, which filed last week, but considering the track record of the firm behind it, investors may want to take a closer examination at how ripe that opportunity may actually be for the picking.

EQ: As we discussed in our last interview, Thursday was a very busy day for IPOs, with 7 new listings. There were 11 total for the week. Which ones stood out to you the most?

Gaskins: Quintiles Transnational Holdings (Q) was the biggest at $800 million on the IPO with a market capitalization of around $5 billion.  It’s dominant in its field and provides biopharma development services worldwide.  Q is a product of a leverage buyout, is a service company with a negative net worth of $840 million and doesn’t need a strong balance sheet to compete.  The negative net worth came from the private equity owners paying themselves a high rate of dividends, pre-IPO.

On a valuation basis Q sells for a little over one time sales, 29 times trailing as months earnings and has a low gross margin of 25 percent.  Some institutions have a place in their portfolios for a company like Q, and it should edge up overtime.  Q closed Friday at $42.39 up from an IPO price of $40 on Thursday.

PennyMac Financial Services (PFSI) is a mortgage packager and reseller and also owns the management fee income stream from PennyMac Mortgage Investment Trust (PMT).  The Chairman & CEO is Stanford Kurland, formerly of Countrywide, which was palmed off to Bank of America which had a huge write-off as a result.  PFSI IPO’d at 10 times annualized earnings for the March quarter and rose to $19.60 on Friday from a Thursday IPO price of $18.

EQ: On Friday, blank-check company Capitol Acquisition Corp. II started trading on the NASDAQ under the symbol CLACU. What is your analysis on this company? What are your thoughts on investing in acquisition companies in general?

Gaskins: Acquisition companies by definition have no operating entities on their IPO.  In general we stay away from blank check acquisition companies because there is nothing to analyze.

EQ: Next week, we have Ambit Biosciences (AMBI) set to IPO next week. Is this a name you like? Are there any other ones that you’re watching closely?

Gaskins: AMBI’s collaborations are all winding down, not a good sign.  Their lead product doesn’t go into Phase III clinical trials until 2014 and does show promise.  AMBI has an accumulated deficit of $245 million but it does have deep pocketed shareholders, who have agreed to put up 43percent more than the net IPO proceeds to AMBI, in a concurrent private placement at the IPO price.  It seems prudent, however, to wait the sidelines regarding the AMBI IPO.

Two software companies are attracting investor interest, however:  business analytics software company Tableau Software (DATA); and cloud-based marketing company Marketo (MKTO).  Both show rapid sales growth, which is unusual in this economic climate.

The full IPO calendar is here.

EQ: On Thursday, organic grocery chain Sprouts filed for a $300 million IPO. Given the recent success of Whole Foods Market (WFM), do you think this offering will generate a lot of excitement from investors?

Gaskins: Pre-IPO Sprouts’ ownership is the following:  Apollo Funds, 52 percent; SFM Liquidating Trust, 36 percent; KMCP Grocery Investors, LLC, 6.5 percent.  Apollo is notorious for buying companies and then stripping their balance by paying out a high rate of dividends to themselves, leaving a weak balance sheet.

And looking at the S-1 filing it appears that Apollo is preparing to unload some of its stock on the IPO, not a favorable sign for IPO investors.

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The proforma for 2012 does indeed show interest payments of $47 million (typical Apollo) with earnings of only $20 million on revenue of almost $2 billion.

This is a grocery roll-up by Apollo, only half of Sprouts stores are “Sprouts stores”.

“In 2002, Sprouts Arizona opened the first Sprouts Farmers Market store in Chandler, Arizona. In 2011, Sprouts Arizona combined with Henry’s, which operated 35 Henry’s Farmers Market stores and eight Sun Harvest Market stores, as a part of the Henry’s Transaction led by the Apollo Funds.”

“In May 2012, we acquired Sunflower Farmers Market, Inc., which operated 37 Sunflower Farmers Market stores (referred to as “Sunflower”).”

In general, IPOdesktop is skeptical of Apollo deals that access the IPO market to bail out their private equity investments.  It will take a fair amount of financial analysis and ‘looking under the hood’ to see if Apollo is trying to pull another fast one on IPO investors.

DISCLOSURE: The views and opinions expressed in this article are those of the authors, and do not necessarily represent the views of Readers should not consider statements made by the author as formal recommendations and should consult their financial advisor before making any investment decisions. To read our full disclosure, please go to:

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