To be successful in the capital markets public companies need broker-dealer support. But how do you get the very best from the sell-side?
Earning Broker-Dealer Support
It’s probably a stretch to compare broker-dealers to Atlas, the Titan condemned to holding up the celestial spheres. That said, there are four areas of support that a healthy broker-dealer relationship should deliver to your public company:
- Constructive research;
- Effective institutional marketing;
- Active trading; and
- Access to the broker-dealer’s retail network.
However, these benefits are earned over time. To earn constructive broker-dealer support, your company’s investor relations program has to live up to its obligations. In this article we talk about what companies can do to maximize the broker-dealer support they receive.
The first rule of analyst research is that your company is not entitled to analyst research. Broker-dealer’s have to make choices when it comes to allocating their resources. At a cost of approximately $200,000 to $250,000 per year, research coverage doesn’t come cheap. And things just got worse with Europe’s Markets in Financial Instruments Directive II (“MIFID II“). By forcing broker-dealers to price research separately from trading execution, MIFID II has broken the funding model for sell-side research and corporate access for all financial products sold in Europe. Companies should expect it to be more difficult than ever to attract and maintain coverage. Going forward, research will only be allocated to companies that generate revenue for the broker-dealer through activities like:
- Corporate access;
- Merger and acquisition advisory; and most importantly
- Raising debt or equity capital.
It may sound harsh, but everyone has to eat. You can learn more about the specifics of attracting analyst coverage here.
You can increase your odds of success by providing transparent reporting, access to management and regular updates. Once research is launched, the hope is that it is constructive, insightful and further clarifies the nature and performance of your business to investors. Finally, you should avoid acting like a cry baby when you receive a sell/hold recommendation that is supported by the facts.
Markets are structured so that broker-dealers make more money placing your shares with high turnover clients than with long-term buy and hold clients. The type of investor you should be targeting will depend greatly on the size and stage of your business, and will often be different than the kind of investor your broker-dealer is targeting. An investor relationship management system is indispensable for identifying investor targets and tracking which investors your broker-dealer is pairing you up with.
To help your broker-dealer fill the marketing schedule with the investors/institutions that you are targeting you should:
- Commit to marketing dates well in advance (and keep those commitments);
- Avoid activities that undermine the broker-dealer; and
- Share with your broker-dealer who your investor targets are.
This will help maximize the number of investors in the marketing schedule that closely match your target profile. It will also help to ensure you get the most value out of the time your CEO/CFO has dedicated to institutional marketing.
To avoid becoming “stuck-holders” institutions avoid stocks that are illiquid. Illiquid stocks have insufficient trading volume for investors to buy and sell shares without having a dramatic impact on share price.
A broker-dealer who actively trades your shares helps your liquidity. To encourage greater liquidity, you should take advantage of every opportunity you have to speak to the institutional sales desk so you can:
- Address any misperceptions the traders have;
- Ensure they understand your company’s investment thesis; and
- Gain their attention and be top-of-mind so it’s your story they are pitching instead of someone else’s.
For stocks traded in Canada, it is possible to quantify how many shares your broker-dealers are actively trading. This information is useful in selecting broker-dealers for marketing and for your syndicate when you raise capital. Due to a lack of reporting requirements on trading and the prevalence of dark pools in the US, public companies traded in the United States do not have access to this information.
Retail broker network
Retail brokers are growing in their importance to the capital markets. Many of the retail brokers you will speak to manage books worth as much, if not more, than some of the institutional investors you speak to. In addition, many of them will have greater flexibility in terms of what they can recommend to their clients.
Never pass up an opportunity to present to a broker-dealer’s retail group. An hour spent in a room with a healthy retail broker group will often give you access to more assets under management than you can address in a day of institutional marketing. They are also an important source of liquidity.
New regulations have created additional costs and technological challenges for retail brokers. In response, many retail oriented brokerages have sold themselves to bigger investment banks or have just closed their doors. The retail broker arms of several major investment banks have also recently made major cuts to their staff. The industry is changing rapidly and it appears that these changes will further concentrate wealth into the hands of fewer brokers.
Playing the long game
It can take up to two years of regular meetings and phone calls to achieve full broker-dealer support, so be patient. Once support is attained, be sure to maintain regular contact with your broker-dealer’s research analyst, investment banker, institutional trading desk and retail brokers.
Measure the performance of your broker-dealers over the long term using an investor relationship management system. If the performance of a broker-dealer lags in a certain area, take corrective action to improve the relationship. Long-term, broker-dealer performance should inform who to prioritize for marketing and syndicate selection.
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