One of the first questions we ask a client or a potential client in Saudi Arabia is: "What do you hope to achieve from going public?" This is a necessary question not only because the IPO process in Saudi Arabia takes considerable time and resources, but also because the answer provides an insight into the client's state of preparedness.
Just as a bit of background, Saudi Arabia has seen a resurgence in equity offerings in 2012 with public equity issuance (IPOs as well as right issues) growing by 95% from SAR 6,184.7 million in 2011 (full year) to SAR 12,061 million for the first nine months of 2012. Whilst issuance, at least in terms of value, has been dominated by rights issues aimed at realigning capital structures, the level of IPO activity has been notable. There were three par offerings in 2012 raising a total of SAR 1,856 million and three premium offerings, raising SAR 2,930 million.
Par offerings are typically offerings of shares in greenfield companies at par where the sponsors are required to offer a portion of the equity to Saudi retail investors as part of the licensing conditions. Premium offerings are akin to typical IPOs, i.e. of established companies. We expect to see continued issuance and growth in the mid-term as market sentiment improves.
In many cases, the company initially has a somewhat misguided perspective on what can be achieved from an IPO. A number of them hope to resolve various organizational concerns in relation to, for example, inadequate board-level governance or an unclear succession plan.
Many of them want to become 'institutionalized' or 'corporatized'. Both these words are used to describe the state that the family business, typically transitioning from the second to the third generation, hopes to achieve after it has, for example, put appropriate governance in place to ensure related-party transactions are conducted on an arm's-length basis, established a clear succession plan - ideally involving external managers - constituted and empowered appropriate committees, invited qualified independents to the board etc.
Whilst going public will help, for example, attract high-quality external managers, many of these issues need to have been addressed prior to the offering and, indeed, even prior to the submission of the file to the regulator.
If their objective is to become 'institutionalized', we advise them on alternative, interim steps before launching the IPO process.
A key objective is liquidity for the existing shareholders. Almost all (premium) IPOs in Saudi Arabia have been a partial monetization of existing shares. This is clearly by far the most important objective although not one that is readily admitted. On occasion, clients will have specific valuation objectives in mind in relation to either the IPO multiple or the first day or first month performance. These objectives need to be managed to ensure a balance between the valuation achieved for the selling shareholders as well as for the new public shareholders.
Other important advantages in the Saudi market are:
- Easier access to wider and cheaper sources of capital (debt / sukuk, equity). Many public companies have issued rights as well as sukuk following their initial offering;
- Acquisition currency to assist in M&A. A few companies have used their shares to buy other companies and many more are considering doing so;
- Better ability to attract and retain management. High-quality managers are more easily attracted to public companies. Whilst there are few public share schemes currently in place, a number are being worked on;
- Improved public profile, assistance with marketing. A number of clients have commented that, as a public company, they have been more successful in securing new contracts with government agencies;
- Continuous independent, relative measure of firm's performance through the share price;
- Continuous requirement to maintain high governance standards. Many family businesses implement strong governance systems but have difficulty maintaining them in the long run.
These advantages have to be weighed against some of the disadvantages before a decision is made:
- Costs of maintaining a listing (EGMs, reporting requirements, investor relations department, share register). These costs are often prohibitive for the smaller companies that want to list on the Saudi market;
- Market focused on quarterly results and continuous improvement. This issue is one that is seen in many markets and debated continuously;
- Need proper and continuous communication to ensure that the story is understood by the market. Relatively few Saudi companies have initiated and maintained appropriate investor relations departments that are able to communicate effectively with the investors;
- Significant scrutiny on the way that the business is managed. Managers of family business are typically the owners and are not used to having to report to a board that will consist of at least some independent directors. This requires a significant shift and in some instances has been difficult to manage;
- Disclosure requirements may provide competitors or customers with unnecessary information. Companies have to release performance information to the market but are concerned about competitors using it to their advantage. A balance has to be struck;
- Potential for takeover bids. In Saudi the market for public takeovers has been limited but this is likely to evolve in the long-term.
We work with clients to ensure they understand what an IPO really means as it is often one of the most dramatic changes that a company will have to go through, particularly if it is a family business.
Common Pitfalls in the Early Phases of Preparation
In the first phase of preparation we also spend some time with the clients to explain the issues that, from our experience, we have seen other issuers stumble upon.
Issuers typically underestimate the time and resources that are required to pursue an IPO. In particular, significant time is obviously required of the CEO and CFO. Whilst these managers are typically keen at the outset, deal lethargy often sets in during the regulatory review process. Momentum has to be maintained throughout the process to ensure that queries are addressed as completely and efficiently as possible.
The board also needs to be involved from the outset, receiving regular feedback on the progress and the issues that have been faced. In some instances, the boards have been involved in appointing the financial advisor but then have not really engaged until the final review approval stages. Given their potential liability, they need to be involved at regular intervals.
The CEO and CFO clearly do not have enough time to deal with all the issues. We strongly recommend the appointment of an IPO manager. Ideally the IPO manager has spent some time with the issuer, knows the key managers and businesses and is sufficiently empowered to request and extract the appropriate information.
Even the IPO manager may not be sufficient during periods of intense activity. The CEO needs to be prepared to mobilize additional internal (or possibly external) resources at critical junctures.
Clients request that an indication of the costs of listing is provided. Unfortunately, management will occasionally challenge themselves to prepare for an IPO at a significantly lower number! We have been involved in transactions where the issuer's desire to reduce costs meant that poorly qualified lawyers, accounting diligence advisors and translators were appointed. This meant that, as a minimum, some time was lost in rectifying the issues. In the worst cases, the work had to be redone in its entirety resulting in the loss of 4-5 months. As a matter of policy, we insist that the client uses certain service providers from an approved or referenced list.
As mentioned above, many issuers see the IPO as a means to fix various internal issues. However, as financial advisors we are uncomfortable taking a company to market that has not addressed some fundamental structural and governance concerns. Indeed, we would generally be unwilling to initiate the regulatory approval process before the concerns had been addressed or significant progress had been made and a clear path to resolution was visible.
Overcoming the obstacles outlined in this section is necessary to a smooth IPO process and eventual listing.
Sameer Nawaz is co-head of investment banking at Saudi Fransi Capital. He has been with SFC in Riyadh since late 2006 where he has worked on a number of M&A and IPO transactions.