A two-year-old stock exchange in Frankfurt could give U.S. high-tech companies an inroad to European public markets.


When CFO Joseph Gonzalez started talking to bankers about an initial public offering for FortuneCity.com last year, "our natural reaction was: 'Go to Nasdaq,'" Gonzalez says. But after carefully considering the strategic focus of the company, which creates Web sites in nine European languages, Gonzalez and other top managers were persuaded not to concentrate on U.S. capital markets. Instead, they decided last March to pursue an IPO on Germany's two- year-old Neuer Markt, raising $95 million in a capital-raising effort that was 37 times oversubscribed.

"It made sense" to choose a new European stock exchange for the offering, argues Gonzalez, "because our business is bringing the Internet to Europe."

Granted, there are only three U.S. companies listed so far on the rapidly developing subsidiary exchange started by the Deutsche Börse in Frankfurt--and the other two, LHS Group Inc. and SCM Microsystems Inc., also are essentially European companies with U.S. headquarters. Nonetheless, some authorities see the Neuer Markt as tailor-made for American high-technology and Internet-related companies.

"Any Nasdaq-listed company with an extra-U.S. business model should be thinking about raising its second and third rounds of public financing on the Neuer Markt," says Patrick Thomas, New York­based vice president for equity capital markets for Frankfurt's Dresdner Bank. "Looking at its investor base, the types of companies that have listed on it, and those companies' successes, the Neuer Markt has established itself as the leading European exchange for high-growth industries," he says. Competing for this space are Brussels's Easdaq and France's Nouveau Marche, along with the AIM subsidiary of the London Stock Exchange.

Companies listing on the Neuer Markt seem willing to tolerate the greater volatility associated with a newer exchange as a trade- off for associating themselves with its already-established reputation for strong disclosure standards, and with the more-solid blend of companies those standards help create.

Companies on the exchange enjoy an average price/earnings ratio of 104--much higher than Nasdaq's 62 and Easdaq's 35. With the higher p/e ratio comes the attraction of a lower cost of capital for listing companies. The Neuer Markt "Nemax" index of its 154 companies reached an all-time high of 4010.29 last February 1, a full 400 percent above the opening level of the market, in March 1997.

Europeans Prefer Euros

Atlanta-based LHS Group, the biggest of the three U.S.-based Neuer Markt companies, also trades on Nasdaq. But, says Nikolas von Stackelberg, who handles LHS investor relations in Europe, 60 to 65 percent of its shares are held in Europe. And while Nasdaq usually establishes the company's stock price, "sometimes the price is set on the [Neuer Markt]." LHS, a software and service provider to the telecommunications industry, was founded in Germany and has a solid German market, along with a number of German officers. Revenues for the company were $163.2 million in 1998, and net income was $17.3 million, including one-time charges of $8.2 million.

Like LHS Group, SCM Microsystems was founded in Germany, in 1990. Six years later, it opened its U.S. headquarters in Los Gatos, California, and incorporated in Delaware. The company, whose IPO was launched simultaneously on the Neuer Markt and Nasdaq in October 1997, manufactures products and technologies used in digital applications.

SCM raised a total of $43.7 million through its Neuer Markt and Nasdaq offerings--22 percent of it in the German market. In a secondary offering the next year, it raised another $83.1 million on the two exchanges, with half coming from each.

SCM's products were "already relatively well known in Germany, even before the IPO," although the market for them in the United States was embryonic, according to CFO Andrew Warner. Moreover, SCM realized that "there's an advantage for Europeans to invest locally in equities quoted in euros." The company had 1998 revenues of $85 million, and a net income of $8.4 million, excluding one-time charges.

The Appeal of Visibility

FortuneCity.com, which had a $4.2 million loss on sales of only $1.35 million last year, was started in London, and raised its first rounds of private financing there. In 1998, however, the company established a U.S. identity, incorporating in Delaware, moving its headquarters to New York, and opening another office in San Francisco. "We needed to come to the U.S. to get closer to [the sources of] our advertising revenue, and to find Internet- savvy talent," Gonzalez says.

The company's U.S. base also brought it closer to other sources of U.S. capital. FortuneCity and Time Warner Inc. are 50-50 partners in AcmeCity.com, a community Web site dedicated to Warner Bros. programming. Warner has agreed to pump $150 million into AcmeCity.

But with most of its consumer markets located in Europe, the company took special interest in the launching of the Neuer Markt. FortuneCity.com found appeal in the visibility it would receive there, as one among a relatively small number of companies, which together have a market capitalization of only 52.5 billion euros (US$54.6 billion). Nasdaq's 5,126 listed companies have a total of $2.9 trillion in market capitalization.

Of course, there are risks and considerations involved in trading on a small, new exchange specializing in young high-tech stocks, not the least of which is the market's own extreme volatility. (Many of the companies on the exchange are not well known to American concerns, although the Neuer Markt does include direct broker Consors and the telecommunications company Mobilcom.)

After hitting its peak above 4000, for example, the index slipped to a low of 1652, and by the end of September stood at 2937. FortuneCity.com's stock price dropped 20 percent between its March 19 offering date and mid-September, moving from 15 euros to 11.8 euros.

Gonzalez of FortuneCity calls the Neuer Markt's volatility a "double-edged sword," noting that the company's reasons for choosing the exchange included wanting to avoid getting lost in the crowd, and seeking identification with other growth stocks. Europeans' lack of familiarity with high-tech companies in general, and Internet-related companies in particular, adds to the volatility of the exchange, Gonzalez says. "We have been busy explaining to German and U.K. investors that we won't be profitable right away," he says, adding that "Germans especially have been asking, 'When will you pay dividends?'"

A Victim of Success

There also are challenges involved in dealing with the primarily retail investors that become involved in the Neuer Markt. "You might well be able to drive up your multiple by going to a retail market," says Carole Ryavec, managing director of Plexus Group, a Los Angeles­based consulting firm that analyzes trading and execution costs around the world. But most companies still would prefer to have greater access to institutional traders than the Neuer Markt now offers.

With the Frankfurt exchange requiring a market capitalization of only 5 million euros (US$5.2 million) prior to the launching of an IPO (in comparison, Nasdaq requires capitalization of at least $50 million), whatever institutional trading occurs is done by appointment only. And even retail trades can have a significant impact on stock price.

"If I had 100,000 shares to trade on the Neuer Markt, it could be painful," says Boston-based Putnam Investments trader Brian Doherty, who manages European equity trading. Depending on the issue, a $1 million order can take up to three weeks to execute. Illiquidity is endemic to any new market, of course, and building liquidity is always a Catch-22: as tough as it is to attract issuers and investors without it, creating liquidity without investors is even tougher.

Lately, the Neuer Markt has become a victim of its own success, at least in one respect. With scores of new offerings poised at the starting gate in September, the exchange was forced to announce a number of delays.

"In an environment like this, corporate issuers can't get their road shows done; investors don't have time to invest wisely; and, of course, some people get burned," points out Putnam's Doherty, who worked for Dresdner Bank in London last year, when a single trader managed the bank's total Neuer Markt trading volume. "Poor guy, he was pulling his hair out," recalls Doherty, offering another gauge of the market's growth. Now, Dresdner has a dedicated market group of seven traders operating in Frankfurt.

A Cheap Source of Capital

Before the recent delays, the short entry time for qualifying companies was a strong argument for the Neuer Markt. Going public in the United States still takes longer, with the large backlog at the Securities and Exchange Commission lengthening the 20-to-30-day period it normally takes for an IPO registration to become effective.

From the standpoint of a healthy potential Neuer Markt member, the young German exchange benefits from its stringent disclosure standards--among the strongest in Europe, including requirements for at least one analyst meeting per year, and quarterly financial reporting according to either international accounting standards or U.S. GAAP.

In addition, the market mechanism at the Neuer Markt--which is a market-maker's market like Nasdaq rather than a New York Stock Exchange auction-style market--fosters an unusual amount of transparency. With the Neuer Markt's system, "what you see is what you get," says trader Doherty.

Together, the market mechanism and strong disclosure requirements for members may be the Neuer Markt's greatest assets. And for U.S.- based companies already reporting according to GAAP, adding that new listing could provide a relatively cheap source of capital.

For SCM Microsystems, confirms CFO Warner, "listing on the Neuer Markt required a minimal amount of additional work."


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