Enterprise Explains: PIPEs
Enterprise Explains: PIPEs. After debuting our weekly Explainer series last week with a dissection of the SPAC (if you still don’t know what that means, go read our piece here), a look at the PIPE seemed like a natural follow-up. PIPEs and SPACs are in many ways kindred spirits, and not just because both are obscure to those unfamiliar with the nitty-gritty of the financial markets: Each provides a (very different) shortcut for businesses wanting to raise money and investors eyeing faster returns. For this reason, both SPACs and PIPEs have turned out to be appealing options during these economically troubled times.
So what’s a PIPE? Standing for private investment in public equity, PIPEs do exactly that. Large institutional investors — think private equity groups, hedge funds, sovereign wealth funds, and other asset managers — acquire common or preferred stock in publicly-traded companies, not by purchasing listed shares but via a private placement. It’s not just shares we’re talking about here either. Equity-linked derivatives, such as options and convertible equity, can also be bought in a private placement.
Businesses like them because they get quick, easy access to capital: Compared to secondary share offerings, there are fewer regulatory hoops businesses have to jump through before they can sell equity to private investors. This makes them cheaper and less time-intensive than more traditional avenues, allowing them to access capital typically within two to three weeks.
This makes them particularly popular with smaller or distressed firms: Research (pdf) has found that 90% of companies opting for private investment in equity have a sub-USD 1 bn market cap and a median book asset value of just USD 51 mn. Moreover, the majority of firms have junk-rated credit and operate at a loss.
It wasn’t hard to see the appeal of PIPEs earlier this year: Think back to March. Stock markets were in freefall, the credit markets froze and companies desperate for liquidity found themselves with few options. No sane company would sanction secondary share offerings amid historic declines in the global equity markets, and few investors were in the mood to gamble on risky corporate debt. That’s when PIPEs become an attractive option for businesses in western markets. Unable to raise capital via bond issuance or share offerings and reliant on existing credit lines, some companies turned to private investment to access the funding they needed to see them through the crisis. Before the middle of the year, PIPE investments had already exceeded the USD 35-40 bn that is invested on average in a full calendar year.
Investors like them because they get to snap up equities at a discount rate. Stakes are usually sold at a discount to the market price as a sweetener to investors facing a lock-up period preventing them from immediately selling their shares.