HyperNormalTimes

Written by our Director of Equity Advisory, Jeremy McKeown, the HyperNormalTimes provides in-depth and considered long-term commentary on major macroeconomic and market-shaping themes.

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February 5, 2023

The Role of Public Markets In Supporting Growth Companies

Dartboard,On,A,Tree,Background.the,Arrows,Miss,Target.

- Is AIM Off Target?

Shape Shifting
2022 was a year of significant change and could prove pivotal in re-evaluating smaller UK companies and, in particular, the funding of growth companies. The Numis Indices annual review analyses the state of the UK equity market. I recently spoke to Scott Evans of London Business School, who, with Paul Marsh, compiles the indices and looks at the longer-term trends.
 
Old & Tired
One of the findings is that London’s AIM market is a shadow of its former self. AIM looks old and frail compared to its heyday’s vibrant, dynamic, widely celebrated junior market in the early 2000s. While all other equity market indices saw their largest constituents do better than their smaller ones in 2022, AIM was an exception. Its largest constituents have significantly lagged behind the broader market for the last two years, dragging AIM down.
 
Declining Births
Not surprisingly, 2022 was a poor year for IPOs. At 47 across the UK market, it was the joint 5th worst year for new entrants since 1987. More remarkable was that the number of AIM IPOs at just 13 was only 28% of the total, the lowest proportion of junior market listings since AIM’s launch in 1995. Over the last five years, there have been 153 AIM IPOs representing about 50% of the total number of IPOs. By comparison, in the five years to 2007, there were 1,537 IPOs, of which over 80% (nearly 1,300) were on AIM.
 
De-equitisation
Since its peak in 2007, the number of AIM-listed companies has halved from over 1,600 to 815 by the start of 2023. AIM is not alone in this trend. Across the broader UK market, the number of fully listed companies has fallen by 75% since 1955. Similar de-equitisation trends are mapped out in other markets as well. However, as the junior market, AIM’s purpose is to attract earlier-stage growth companies, and its membership decline has occurred in little over a decade. Does the sharp deterioration in AIM listings and IPO activity since the financial crisis represent a sharp decline in UK company formation and entrepreneurial activity over this period? Other factors are at play. Let’s dig in.
 
SPACs
Interestingly the largest number (32) of new IPOs that arrived on the UK market in 2022 were standard main market listed investment companies and cash shells. Effectively these are what US investors would call Special Purpose Acquisition Companies or SPACs. They are stakes in the corporate turf into which a promoter expects to inject a trading company in due course. Reversing into a standard listing might have advantages over an AIM IPO, at least for promotors and issuers.
 
Stay Private
Companies that previously might have IPOd’d on AIM have been able to find private equity from VCT funds or EIS investors. The period of easy money since the GFC, combined with attractive tax breaks for private investment rounds, has enabled early-stage companies to delay or bypass the previously typical route to a public listing. Increasingly vehicles have been established to invest in privately held unicorn (and other) growth companies that prefer to remain private (Chrysalis Investments and Augmentum Fintech are examples). The argument goes that entrepreneurs can grow more quickly without the cost and distraction of a public listing. However, several companies that went public in 2021 struggled publicly after remaining privately financed for longer than usual.
 
Tax Driven
Tax breaks, introduced to stimulate the flow of funds into riskier assets, often follow the law of unintended consequences. Over time the impact of these tax incentives distorts market dynamics. AIM’s tax position is a case in point. AIM’s participants are increasingly tax-driven, seeking to mitigate IHT or achieve VCT or EIS status. In many ways, it feels like the tail is wagging the dog.
 
Another Way
While it may not be fair to judge the performance of AIM after a period of poor returns for illiquid risk assets, another London-based junior stock market, coming from a much lower base, is showing more vital signs. As of December 2022, the Aquis Stock Exchange* supports 113 companies with a combined market value of £1.9bn. While this is just 2% of the value of AIM, last year, AQSE had as many new entrants as its larger peer. Although small, AQSE has positioned itself to attract a different type of business than AIM. It offers different listing rules and procedures for companies at differing stages of their development. Alasdair Haynes, the CEO of parent company Aquis Exchange sees the AQSE more as a replacement for private finance than as a direct competitor to AIM. He sees the opportunity for AQSE to grow alongside AIM. Either way, to grow in a year like 2022 suggests Aquis might be doing something right. (Listen to In The Company of Mavericks episode 3 for more). 
 
Outlook
Given the normalisation of interest rates and tightening financial conditions, private funding of growth equity is getting more difficult. One of the consequences of the end of the “free money” era is that more growth companies might have to seek public equity earlier in their life cycle. Meanwhile, privately owned equities are now being marked to lower public market valuations. Last week Chrysalis Investments said its new valuation method “represented a transition towards a more market-based approach away from a price of recent investment approach.” I suspect Chrysalis’ portfolio companies would have been AIM-listed fifteen years ago, and the 13% portfolio devaluation it reported for the last quarter would have happened months ago. It is always darkest before the dawn, and the outlook for public market financing of growth companies could be about to change for the better.
 
Jeremy
05/02/2023
 
*The author owns shares in Aquis Exchange, the parent company of the Aquis Stock Exchange.

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