The “equity line of credit” is big business on Wall Street these days, said managing director Rob Deutschman of Cappelo Capital Corp. in Santa Monica.
The basics of an equity line of credit are simple, though actual implementation requires a lot of detail-work: A publicly traded company arranges to sell to a single institutional buyer a large block of stock, but in smaller chunks spread out over a sustained period, such as three years.
That’s not unlike “PIPEs” (private investment in public equity) that have gained currency in recent years, in which a public company places a large block of stock quickly with a large buyer, usually at a discount to market.
But the equity line of credit has advantages, Deutschman said. First off, the public company usually determines the week-to-week timing of the sales, and it usually is not obligated to sell the entire block. This allows a public company to sell when it needs the money, and when the resulting dilution would be least disruptive to existing shareholders.
The advantage for buyers is that they usually get a 3.5 percent to 7.5 percent discount to market, on the day of purchase. This means that the buyers can buy and hold on favorable terms, but more likely they “flip” out of the stock, scoring a handsome one-day trading gain.
“They arbitrage,” said Deutschman.
Cynics might note that the buyer of shares in an equity-line-of-credit deal is really not an investor, and only wants to make money on the spread on the day of purchase. If dilution brings lower stock prices, so be it. No buy and hold here.
But Deutschman pointed out that the private-equity-line investor has no vested interest in seeing the stock price diluted; in fact, they make more money when the stock price goes higher. “Obviously, 5 percent of a $20 stock is worth more than 5 percent of a $10 stock,” he said.
And even if there is some short-term dilution, the public company still gets needed equity and controls the timing of sales, he added.
Equity lines of credit compare favorably to secondary offerings, another avenue for public companies to raise money. “Imagine trying to do a secondary offering in this market,” said Deutschman. “You could get killed on the day you issued the stock (due to market vacillations). Or you might have to cancel the offering.”
Deutschman last month engineered a $50 million equity line of credit for Jacksonville, Fla.-based e-MedSoft.com, a Web-based medical billing service. The buyer is not yet disclosed. Deutschman said he is working on about $500 million worth of equity-line-of-credit deals for this year.
Thrill Is Gone
People who are already millionaires don’t have to suck it up. And that is why there may yet be even further meltdowns in the e-investing world, predicts Frank Kline, founder of the Westside venture shop Kline Hawkes & Co.
One problem with some now-troubled Internet startups is that the entrepreneurs already have a few million stashed in the bank, and a family at home. In most cases, so does the overseeing partner at the venture capital shop that backed the entrepreneurs. “So the question becomes, ‘Do you want to work 12-hour days on what may be a losing effort?'” asked Kline.
Obviously, the thrill is gone for many e-ventures. Instead of hiring friends to launch new world-beating enterprises, the talk is of who to fire, and what projects to kill. “Some of the younger partners at VC shops have left,” said Kline, rather than sit on a brood of troubled companies with nothing but complaints.
“Some VC partners, usually younger ones who got a fund into some Internet startups, are now deciding that life is too short to stay in,” said Kline. “This (fixing a company) is a lot of hard work, and some of the younger partners don’t have the skill set for it.”
Of course, when leaders abandon ship, a troubled enterprise is almost surely doomed, Kline said.
Another major problem: Many financial backers and entrepreneurs exercised stock options last year. “So, if a guy exercised options last year worth $2 million, that’s a taxable event,” observes Kline. But since last year, many e-stocks have lost 90 percent or more of their value. And tax time is coming up in a hurry. “That can mean you have people who have to pay 20 percent in taxes on $2 million of options, where the stock is now worth $200,000,” said Kline. That leaves the e-investor about $200,000 in the hole another incentive to chuck things and join another more-promising venture.
Rally Time?
When the Nasdaq starts trading at a near 60 percent discount from its peak, and when the Dow Jones is off close to 20 percent from its high, then maybe it is time to think about bargains, said Harry Baxter, manager of the Schoff & Baxter brokerage office in Century City.
“I sense we are getting near the bottom, from the investors and colleagues I talk to,” said Baxter. “I am seeing a camaraderie of misery, and historically when that happens, it is near the bottom of the cycle.”
Baxter likes the health care industry as a good long-term bet, no matter how the economy and the stock market waver. “We have an aging population,” explains Baxter. “There’s going to be demand for health care services, no matter what.”
Get Citified
Eight municipal bond pros have left the Solana Beach office of Miller & Schroeder to join downtown Los Angeles-based Wedbush Morgan Securities, including 20-year investment banking veteran Robin Thomas (who has completed 282 muni bond deals worth $2.5 billion), and institutional salesman Phillip Ruggeiro Jr.
“We have tripled our public finance capabilities,” said Norm Ryan, manager of the municipal bond department at Wedbush Morgan.
Freshly armed, Wedbush will boost muni bond underwriting, and sell the government IOUs through its own sales force of 260 stockbrokers and 1,200 stockbrokers at allied brokerages, said Ryan.
Contributing columnist Benjamin Mark Cole writes about the local investment community for the Los Angeles Business Journal. He can be reached at [email protected].
