UAE’s private sector share prices need a definite lift

While IPO underpricing has been well studied in academia, there has been a surprising paucity of findings regarding overpricing. And even less in financial commentary that has accompanied it in the media (much like analysts who have gotten things abysmally wrong on share price forecasts of companies like Salik and Parkin).

This is astonishing because systematic overpricing potentially affects investor wealth generation and, thus, market integrity. While there has been much fanfare regarding the IPO train that galvanized capital markets post-Covid, the fact remains that private sector offerings have mostly been laggards. While state-owned privatization programs are the ones that have had investors benefiting, regardless of the quality of the company’s performance.

Companies like Lulu, Talabat, Phoneix, Burjeel, Al Ansari, and Investcorp trade below their offering price. With the recent earnings season, some of them have been further punished, despite posting healthy results. This has been unlike what we have witnessed in Saudi Arabia, where private sector offerings ranging from poultry producers to fitness chain providers to car rental companies have performed well in the secondary markets.

This has led to increased secondary market activity and expanded the overall investor base, where a majority of shareholders are holding on to the original shares they were allocated.

Capital market activity plays a pivotal role in the diversification of any economy, but even more important is the bolstering of investor confidence whereby newly listed companies have performed far better than traditional sectors as investors seek to buy into the non-oil growth that the Saudi economy provides.

The UAE, by contrast has not seen this, and a primary reason has been the valuations that most of these companies have offered. Their goal being to maximize the return to the parent shareholders.

Asset allocations have accordingly shifted as well, with retail investors moving out of private sector offerings and rotating to state-owned enterprises. While there is nothing wrong with this, it does serve as a cautionary tale for companies that are in the pipeline for listing.

Issuers along with their financial advisors need to understand that sustained secondary market liquidity will only occur when the initial pricing is attractive enough to entice investors. This is even more true for companies in the private sector where the winds of competition are fierce and thus more susceptible to macro disruptions.

With this approach, secondary market activity has dwindled for the most part with private sector issuers, with the consequence that appetite for secondary listings diminish. It sets the stage for a new set of investors to swoop in when the markets go to extremes. (And may well be the case for companies like Lulu and Investcorp.)

For the most part, as volumes diminish, confidence gets affected and even in rising markets, the newly listed companies languish. Value investors relish price declines in the secondary market, and the reality is that as investor education increases, there can be no doubt that the process of value discovery will materialize for well-managed businesses such as Lulu and Alpha Dhabi. (The latter is showing exceptional earnings growth that has not been factored in by the market.)

The companies could have perhaps communicated their results in a more effective manner. Patience is the hallmark of the traditional value investor and it is that distinguishing quality that drives long-term returns. But this is of little comfort in an ecosystem that is looking to attract investors and issuers.

The over-pricing  does not exonerate management nor their bankers for the initial IPO pricing, and leaving little wiggle room for disappointments. 

For upcoming IPOs (including Alpha Data’s), the lesson is clear: executives with the smarts and an independent streak is required to change the traditional paradigm of maximizing the initial transfer of wealth from new investors to existing ones. (Masked under the guise of offering dividend payouts as sweeteners).

It is clear that the domestic capital markets have evolved tremendously, but there is a lesson for the private sector. As they adapt to more scrutiny that comes along with going public, a return to first principles in crucial.

Valuations must be appetizing enough to gain investor trust. Given the recent beating that some of these stocks have taken, it would be nice if private sector issuers say ‘never again’. And which is then backed by a more activist-oriented financial sector commentary from the media and analyst community. For that to happen, we will need more than studies…