Challenges ahead for AIM

After a record-breaking year for IPOs, the European public markets look set to remain more than welcoming to new companies. Across Europe, the number of IPOs and the offering values reached new heights, even outstripping the US for the first time in terms of value: 603 IPOs in Europe raised €50bn; 205 IPOs in the US raised €27bn. London was the driving force behind Europe’s success, and AIM in particular, accounting for 52% of the total number of IPOs.

AIM started 2006 at a slower pace than it ended the previous one, but it is still, observers agree, in good health. According to PricewaterhouseCoopers figures, 65 companies were admitted to AIM in Q1 2006, raising £1.5bn, which is down on the 86 companies raising £2.8bn in the final quarter of last year, but compares favourably to the 58 companies raising £565m in Q1 2005.

But can the good times last? The experts seem to think they can, barring any significant economic factors emerging. AIM is predicted to waltz through 2006 as it did in 2005, but the seeds of dissatisfaction are already being sown. There have been murmurs of discontent from a number of private equity partners and VCs with talk of AIM overpaying for companies and admitting too many small and average businesses. At the end of last year Philip Secrett, a partner at Grant Thornton Corporate Finance, warned that AIM needs to restructure in order to realign investors’ interests with the companies listed there (see EVCJ Review of the Year 2006, p48).

AIM is also facing increased threats from jealous rivals. Euronext set up Alternext; Ireland established IEX, and Germany has opened Entry Standard. All of these exchange-regulated markets – as opposed to the EU-regulated main markets – were created with AIM in mind. And now there are reports that the London Stock Exchange is getting nervous about the threat posed by Ofex, an independent public market specialising in small and medium enterprises. Ofex owner Plus Markets Group (PMG) reckons that planned rule changes to AIM by the LSE are an attempt to nip any threat in the bud. The changes include a restrengthening of the rule that AIM rules take precedence over the equivalent obligations the company owes to the operator of a third party trading platform; the requirement that a company must inform AIM when it lists on a third-party platform, and of any changes to that status; and, most controversially, the specification that a company’s adviser must inform the Exchange without delay of any unusual trading activity on that platform of which it becomes aware. Instances of unusual price movements or trading activity are provided in the guidance to AIM Rule 39 and include where the bid/offer on the platform exceeds 5% from the bid/offer on the Exchange or where there is a material increase in the volume traded on the platform. PMG is reported to be seeking legal advice on the grounds that the proposed changes are anti-competitive.

Ofex may be getting a little ahead of itself if it really believes it is AIM’s rival (or if it thinks that AIM thinks of it as a rival). It was only two years ago when the fledgling market was in dire straits. The turnaround since ex-AIM boss Simon Brickles took over Ofex in 2004 has indeed been impressive (the company reported a 70% decrease in losses for the year in December), but it is too early for it to seriously be considered a competitor to AIM. The only way this could really be possible is if companies are either deserting AIM for Ofex or choosing to list on Ofex and not AIM. Neither is happening. Ofex targets smaller companies than AIM and the only real overlap is with those companies that have a market capitalisation around the £5m mark, companies which many critics of the alternative market argue AIM needs to get rid of.

Likewise, AIM is unlikely to see any real threat for a while coming from the French, German and Irish upstarts. Alternext, Entry Standard and IEX are all too new for a real assessment to be made just yet. Tom Troubridge, head of PriceWaterhouseCoopers London capital markets group, says: “The volumes on these exchanges are pretty low compared to AIM and it will take a while for them to reach critical mass. I think it is going to be especially difficult for them to challenge AIM for international listing; at the moment they are attracting almost exclusively domestic companies.”

International appeal

AIM’s ability to attract foreign companies is no secret, and data released by Close Brothers reveals that the opening quarter of this year has seen 24 overseas companies float on the London Stock Exchange, of which 21 were AIM flotations, up from 14 in Q1 2005. International IPOs accounted for around 29% of total AIM floats. In the opening three months of 2006, overseas companies have raised £839m floating on AIM, a massive increase from the £104m raised in the same time last year. On average, the amount raised per IPO by a foreign company was £40m, up from £7m in Q1 2005. In Q1 2006, AIM IPOs were predominately from countries such as the USA (4), Ireland (2), Canada (2), Australia (2) and Israel (2), with tax havens such as the Cayman Islands (2) and British Virgin Islands (3) actually being the most common source of new companies.

Gareth Healy a director at Close Brothers, says: “AIM is attractive to overseas companies for many reasons. Amongst the most compelling are AIM having fewer regulatory and listing requirements than many international markets, the speed of listing, ease of acquisition activity, and access to a deep pool of liquidity. AIM has really established itself as the most attractive market for interesting, high growth overseas companies and has firmly established London as Europe’s dominant financial centre. We expect the trend for overseas companies to list on AIM to continue.

“There are also other ‘push factors’ at play. For example, the demand for AIM listings from US companies is being spurred by the Sarbanes-Oxley regulation, the high cost of a listing and the large minimum size for an effective IPO in the US. For many companies, AIM is now the new NASDAQ. Although few have actually listed yet, we are increasingly approached by US companies seeking to investigate an AIM IPO.”

Success brings its own challenges

But even all this good news brings with it the possibility that things could turn sour. Secrett warns: “Unless certain steps are taken AIM could become a victim of its own success. Beginning life as a generic growth market, AIM’s continued attraction of junior natural resource companies has meant that mining and oil & gas stocks now represent over a third of AIM’s total market capitalisation. Over-reliance on natural resource companies arguably leaves AIM vulnerable to possible depreciations in the price of oil and gold, as it undermines its broad-based diversity which played such a crucial role in helping AIM weather the slump comparatively well as compared to certain US and European exchanges that had built their reputation on a strong technology bias. To minimise risk and achieve greater diversification, AIM must maintain its key elements of flexibility, investor confidence and favourable tax breaks.”

There are no immediate problems facing AIM, but there are enough signs out there to keep people on their toes. The increasing internationalisation of the market has not been matched by an increasing internationalisation of its investor base, something which would no doubt help improve the poor liquidity – currently 80% of stock held at IPO remains in the hands of initial investors.

Also, its success has not gone unnoticed, and the whiff of increased regulation is in the air. The Financial Services Authority (FSA) wants to relax the rules governing investment entities that want to list on the main market, thereby levelling the playing field between the Official List and AIM. Secrett said: “Investment entities that would have previously remained private structures with limited liquidity and transparency have chosen AIM ahead of the Official List because of its flexibility and because of the vibrant fundraising environment that has grown up around AIM. With the Official List about to remove most of its restrictions in respect of investment entities, AIM can look to greater competition for listings.”