Following last week's focus on the future of AIM, this week we explore the small-cap market. It's a difficult time for companies on the main market at this level of capitalisation, not least because investors are looking towards blue chips as a safer option. To survive in the current climate, small-caps need to be open and honest with investors, as well as proving they have a strong and sustainable business plan. Having a long-term view may be difficult with the immediate challenges of a recessionary market, but successful companies will be those who are planning for future investment now as well as the immediate support needed to survive the downturn.
So what should leaders of small-caps be doing to ensure their long-term survival? Reputation clearly plays a crucial role in how well organisations leverage investment through the market. As Rob Woodward, CEO, stv group plc comments: "Above all, the market needs the comfort of a healthy balance sheet, a clear and simple strategy with tangible signs of growth, a relentless focus on operational detail and a respected management team. Put these ingredients together and you will be rewarded by the markets when we come through the recession."
With this in mind, investor relations will become even more vital to small-caps seeking finance, be it for short-term survival or long-term growth. As Don Elgie, Group Chief Executive, Creston plc explains: "In my view, the predominant issue for small caps during this difficult time is meeting investor expectation. This is not the time for surprises so if there is a trading issue, companies need to tell the market in good time. At present, it is difficult enough for small-caps to achieve funding with investors targeting larger, more liquid investment options. Smaller organisations on the main market need to be honest and open now if they want to be successful when market sentiment changes."
Taking this approach should help reassure investors that small-caps are still a good investment option. It is worth remembering though that the perception of added risk these organisations sometimes present is not a new phenomenon. Stevie Spring, Chief Executive, Future Publishing plc explains: "Typically, of course, small-caps have been viewed as higher risk than blue chips, and we all know how risk has been viewed in the last couple of years. But that presents opportunities, partly from the increased bullishness that market recovery will bring and partly too when you consider that the FTSE small-cap index has underperformed the FTSE 100 for many years, so there is arguably more potential for a greater recovery. For small-caps to benefit it's about getting on the radar, showing growth potential and addressing wariness head-on by demonstrating stability and balance sheet strength."
Sourcing sustainable sources of finance is a major challenge for small-cap companies but this is what they should be focusing on in the current climate. Martin Graham, Former Director of Markets and Head of AIM, London Stock Exchange explains: "I think that it is critical for ambitious smaller companies to be seeing through short-term market conditions and looking at their long-term financing strategies. The relatively easy availability of debt finance which has been a feature of the last 10 years will not be sustainable going forward. Even though in the short-term public markets do not look an attractive option for smaller companies with poor liquidity and low valuations, we are currently at the bottom of a cycle that will turn. Ultimately the capital, liquidity and profile a listing brings cannot be matched by any other form of finance. "
Despite the challenges the downturn has created for small-cap organisations, there are also many positives. For example, Clint Evans, CEO, Barlow, Lyde & Gilbert believes that recession has created a chance for smaller organisations to increase their talent pool. He says: "One of the key limitations to small cap business growth is securing and retaining top talent, the very talent that larger organisations are now forced to part company with in order to appease their performance indicator gods. So the talent barrier is lifted."
We should not underestimate the future potential of small-caps going forward. Although they have certainly suffered in the recession, they have the opportunity to take advantage of the upturn in a big way. Clint explains: "In 2010, this is likely to be the area of the market where the genuine seeds of growth are sewn and where the front runners for the next economic upturn will come from. With generally a higher degree of strategic focus than larger conglomerates and less complex financial structures to feed, businesses at this level should be able to react more rapidly to opportunities presented in the post recessionary economy. As for the sort of companies which will move into this category, it will be an identity parade comprising those who have endured, those who have downsized and restructured and some fresh entrants. What they will have in common is an entrepreneurial outlook and recession hardened experience of what it takes to succeed and fail."
For companies who decide to list as the market picks up, we should not forget the benefits to corporate practice and, in turn, the entire economy. As Martin Graham says: "Although going public requires a genuine commitment to transparency, good corporate governance and management time invested in IR, these are all things which should benefit how a company is run. In addition, coming to a public market is not just about raising IPO finance, it is about financing a company through its growth cycle."
If you are interested in exploring this topic further, please view our upcoming event, Small Caps CEO Breakfast taking place on the 21st October.
Please do not hesitate to get in touch with me if you have anything to add to the points raised in today's newsletter.
I hope to see you soon.