IPO market remains a shadow of its former self

Tactile Systems Technology of northeast Minneapolis has been a winner for shareholders since it went public in July at a price of $10 per share.

The fast-growing medical products company, which does business as Tactile Medical, raised more than $40 million in its offering. The stock closed Friday at $20.18 per share, a nearly doubling of shareholder value to more than $320 million.

"We felt the timing was right for us to do the IPO given the tremendous growth in the past two-to-three years," CEO Jerry Mattys said last week. "The capital raised not only strengthens our balance sheet, but also provides access to the public markets … greater flexibility to continue on our growth trajectory, and … invest in strategies for future expansion.

"In addition, going public puts Tactile Medical's products and services in the spotlight and better enables us to create awareness of how our solutions can provide significant benefits to the patients who need them."

Tactile, with 275 employees and profitable in the first half of this year on revenue that increased 34 percent to $33.4 million, makes "home-therapy" products such as pneumatic compression devices that help control swollen limbs connected to cancer of the lymph nodes.

Tactile is the rare growth company that has raised capital through an IPO.

In fact, revenue to investment banks from equity offerings is at 20-year lows since 2015.

Why? Cheap debt, due to sustained historically low interest rates, makes borrowing to expand organically or through acquisitions cheaper than paying an investment bank a 7 percent fee of the gross amount raised in an offering. And the scrutiny and volatility of public-stock ownership is avoided.

The debt market has been as hot as the equity-capital market has been cold lately.

Deep-pocketed strategic buyers, such as NBC Sports Group, are getting bigger by buying smaller growth companies such as SportsEngine, the northeast Minneapolis company that employs 250 and is America's top provider of software to manage youth, amateur and professional sports online.

In August, New York investment firm KKR & Co. bought Calabrio, the Minneapolis-based maker of software that analyzes call-center interactions, in a deal speculated to be worth $200 million.

"There's a lot of money out there with strategic buyers and private equity firms," said Rick Hartfiel, the veteran head of investment banking at Craig-Hallum Capital of Minneapolis. "Even though they might get a better valuation in the public market, they don't want to take the risk.

"Calabrio and SportsEngine, in the old days would have gone public. They were backed by venture capitalists. They got good prices and I'm sure were successful for investors."

Tactile Medical is the first Minnesota IPO this year in a market where there has been 62 IPOs nationally through mid-September, compared with 135 through the same period in 2015. The best IPO years since the Great Recession were 2014 and 2013 when 263 and 214 companies went public respectively.

The banner years for IPOs were 1980-2000. More than 300 firms went public annually on average. The number of publicly owned companies in Minnesota and nationally is shrinking, mostly thanks to buyouts by larger competitors.

Valspar, G&K Services and St. Jude Medical all have announced sales this year for billions to larger competitors.

The business of raising money is still good for investment bankers. The mix has just shifted.

For example, Piper Jaffray saw its investment banking revenue rise by nearly 5 percent during the first half of the year to $202.4 million. But the mix changed. Its equities business dropped 67 percent year-over-year while its advisory services, mostly on debt deals, grew 74 percent to $129.7 million.

David Stadinski, head of equity capital markets at Piper, said he's not concerned about an off year for equity raising after several pretty good years through 2014, when volumes returned to the levels of a decade ago. And the equity business is reviving a bit.

PricewaterhouseCoopers and Renaissance Capital reported last week that the IPO-deal pipeline is strong for the last four months of the year, starting with a strong September, as long as the stock market stays strong.

"The IPO market is open and there will be more this year," said Hartfiel of Craig-Hallum, which just took two Silicon Valley firms public and also raised $10 million for online retailer Evine Live. "If you can get it done, the deal will be underwritten. It's about investor appetites."

Stadinski and Hartfiel doubt the equity-raising market will return to the go-go days of the 1990s. The increased regulatory costs of compliance and public reporting, in addition to public scrutiny, are deterrents. And small-capitalization firms tend to experience more price volatility because of the smaller number of shares outstanding and relative illiquidity of their stocks.

Zachary Robins, an attorney in corporate transactions for Minneapolis-based Winthrop & Weinstine, helps small companies raise capital and is a co-founder of MNvest, a nonprofit that advocates for equity crowdfunding in Minnesota.

"Are we going to get a more robust [IPO] market, I don't think anytime soon," Robins said. "That is because we have such an active private market."

"If I'm XYZ private company and I have the ability or traditionally would have the ability to go public at my current size, but I can go ahead and raise capital from a Series E round or Series F round from a huge venture capital firm at the same valuation as an IPO … why not go ahead and do that? Why not only deal with one or two or half dozen investors rather than having to go to 'the street,' do a roadshow, have to deal with the costs and the higher regulations associated with the officers and directors of those companies?"

And newly minted public companies are not performing as well as they once did. Renaissance Capital has created an index of companies that have completed IPOs within the last two years. Over the last year and last three years their IPO index has underperformed the S&P 500 and Russell 2000 Indexes. There are also fewer firms underwriting these IPOs and fewer stockbrokers promoting those investments to interested clients.

"Certainly there are peaks and valleys in the private market and there are bubbles in the private market," Robins said. "And we are likely entering a bubble if we aren't there already."

The number of options for companies to raise capital, especially smaller companies, continue to expand, including crowdfunding created by the Jumpstart Our Business Startups Act (JOBS act) that was passed in 2012, and phased in through this year.

This differs from crowdfunding sites like Kickstarter, Go Fund Me and Indiegogo. They generally offer donors an award for their money, such as an inaugural product. Provisions of the JOBS Act allow individual investors to acquire equity positions in the start-up companies.

Neal St. Anthony • 612-673-7144

Patrick Kennedy • 612-673-7926