Cornerstone investments can assist a firm’s overall exit objective, particularly when there are bidders for a portfolio company but no outright buyer.
By James Inness, Tom Evans, David Walker, Sonica Tolani, Connor Cahalane, and Catherine Campbell
Cornerstone investments, which involve taking a stake in an about-to-list company, have been popular in Asia and in Nordic countries for several years, and are becoming a more regular feature in European deals. The £300 million IPO of peer-to-peer lender Funding Circle in November 2018 and the £2.18 billion IPO of payment processor Network International in April 2019 were both completed with cornerstone investments of around 10%.
Why Consider a Cornerstone Investment?
Despite difficult market conditions, we have seen continued interest in IPOs from PE firms, either as a sole exit option or alongside auctions in a dual-track process. Cornerstone investments can assist a firm’s overall exit objective, particularly if a firm attracts bidders for a portfolio company but fails to find an outright buyer. Strong early support from cornerstone investors can help with marketing an IPO to other investors, increasing the likelihood of a successful listing and paving the way for an exit.
Key Features of a Cornerstone Investment
Cornerstone investments in London Stock Exchange (LSE) IPOs (and elsewhere in Europe) are not subject to specific regulation, allowing flexibility in structuring terms to meet investor and issuer needs.
For European IPOs, cornerstone investments are typically made at the same share price as other IPO investors. While recent LSE investments were generally made at IPO price, there are examples of cornerstone investors paying a discount to the IPO price on other European exchanges. Deal teams should note that discounts may act as a drag on pricing for the IPO — investors through the book-building process may be reluctant to accept a higher valuation.
Having cornerstone investors agree to a lock-up for a period provides price stability post-IPO and assists with marketing by underlining that the cornerstone investors are committed to the company. Recent cornerstone investments in London IPOs have been subject to a lock-up of 180 days.
Key Challenges: Balancing the Flow of Due Diligence Information and Insider Risk
Disclosure of information needs to be carefully considered — there should be no disparity in the material information provided to cornerstone investors and the information available in the prospectus to other investors. Cornerstone investors may be provided with more detailed non-material information, for example access to copies of documents that are summarised in the prospectus. However, if requests include additional information not intended to be included in the prospectus, the issuer should consider whether this is material information which should be disclosed to all investors. If cornerstone investors receive price-sensitive information which is not included in the prospectus or otherwise available to the market, they may become insiders and will be restricted from dealing in the company’s shares unless and until this information is made public or is no longer price sensitive.
Increase in IPO Activity
Following a relatively quiet first quarter in 2019, the European IPO markets are showing signs of increased activity and we believe PE firms will continue to view public listings as an attractive option for portfolio companies. If an IPO is on the cards, PE firms should consider engaging with potential cornerstone investors to help decrease execution risk and increase the prospects of a successful IPO and exit.
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