Everyone knows how the traditional follow-on equity raise works, and why such events tend to devalue or dilute existing common shares while passing the administrative costs through to current shareholders. Today, the large, lump-sum, traditional secondary equity raise is increasingly being eschewed in favor of the at-the-market offering, or ATM. All a company needs is a shelf registration on file, an agent, and the patience to wait for an up-market environment to release shares at a favorable price. The result is lower-cost capital and greater proceeds per share, achieved by releasing shares into the market when the stock price is strong.

Spurred in part by the cost and reduced availability of debt-raising tools in the wake of the market collapse of 2008, ATMs have seen dramatic growth. According to Bloomberg and company filings, of the 463 follow-on raises this year, 24%—or 110 offerings—are ATMs. In 2009, the percentage was 17%.

“Do the acquisition, do an ATM, and pay down your debt,” suggests Dean Colucci, president and chief operating officer of MLV & Co. LLC, an investment bank and broker dealer active in the ATM market.

Companies such as Linn Energy LLC, Magnum Hunter Resources Corp. and GMX Resources Inc. have used ATMs for common and preferred raises up to approximately $300 million. But ATMs aren’t just for small independent oil and gas companies; Bank of America used the same tool to recapitalize itself in the wake of the 2008 financial crisis, raising more than $13 billion in less than two weeks.

Dean Colucci is president and chief operating officer of MLV & Co. LLC (MLV), an investment bank and broker dealer that now has over a quarter of the ATM market share by number of deals, in a space that includes heavyweights like Bank of America Corp., JPMorgan Chase & Co. and Deutsche Bank AG.

Colucci, previously a partner at DLA Piper LLP, and then-client Patrice McNicoll began tweaking the ATM vehicle for energy industry use in 2002 as they helped proliferate the tool in the REIT (real estate investment trust) space. Like E&P companies, REITs are serial capital raisers that draw a competitive edge from lower cost of capital and lower dilution on a proceeds-per-share basis, Colucci says. Other industries to employ ATM raises are generally characterized by higher risk combined with predictable capital-use cycles, such as life sciences and metals and mining.

“If there are two apartment REITs competing for the same multifamily unit, the one with the lower cost of capital wins,” says Colucci, who practiced law—mostly in the board room and corporate finance realms—for 17 years prior to joining MLV in July 2010. The situation is no different for land in the Bakken.

A majority of REIT raises are conducted at-the-market, and it was from that industry that ATM offerings began to spread during the financial crisis. McNicoll left Cantor Fitzgerald & Co. to launch his own investment bank following the crisis, and MLV became operational in January 2010. The guiding directive was to raise capital more efficiently using a different paradigm.

Colucci and his MLV cohorts believe the existing Wall Street offering model is broken. He points to the inherent conflict of interest between the banker’s client—the public company—and the salesman’s client, the institution buying the deal.

“To the detriment of the public company, pricing doesn’t end up as high as people would like,” says Colucci. It is precisely this discounting that ATMs aim to nullify by selling at the market price of the stock.

ATMs’ attractions

The managing director and head of fixed income research at Global Hunter Securities LLC, Ravi Kamath, agrees that the ATM’s attraction is its lower cost of issuance, which he estimates is generally in the range of 2% to 3% overall, with some possibly seeing 1.25%, depending on deal size and market cap of the issuer. Compared to a regular raise at 5% or 6%, which also requires a management road show—not needed with ATMs— certain companies could really benefit from using an ATM.

“If you continuously need capital, ATMs are good. For LLCs and MLPs, it makes sense,” says Kamath, who observes that micro caps are starting to use ATMs as well. The analyst finds preferred issuances to be quite compelling from the issuer’s perspective, as nonconvertible pre- ferred is nondilutive.

“Comparable to a medium-term note program on bonds, it’s a more efficient way to issue equity.” Kamath adds that the market is relatively neutral to ATM announcements, unlike the typical underwritten offering.

Colucci reiterates the strong points of non-convertible perpetual preferred for oil and gas. It provides a nice yield to the investor, and the issuers are solid companies, whose stocks typically trade in a tight range and are not too interest-rate sensitive. And, it’s an alternative to debt, which isn’t open to everyone. He says a simple straight preferred stock that pays a dividend has much less volatility than common and does not tend to react fiercely to commodity price swings.

MLV derives 90% to 95% of its revenues from ATM raises, declining to focus on traditional trading. Instead, it focuses nearly exclusively on public company capital raises for capital-intensive companies. For most public companies, pricing and marketing 12 to 18 months of its product output and selling it all in one day is uncommon, yet when they look to raise capital through, for example, a traditional follow-on, that is what companies do, notes Colucci. They raise all the capital they need for a significant time period in one fell swoop.

“Most of the companies don’t need capital in large chunks. Drilling programs are finite and need predictable amounts of capital. If you go out and raise 18 months of capital, you are flooding the market with your ‘product,’ in this case your stock, on a given day, selling four or five to 20 times your daily trading volume in a day,” he suggests.

Basic microeconomics says the price of a company’s stock will go down if supply outstrips demand, i.e., the average daily trading volume of that company’s stock. Depending on the size of the issuing company, following the announcement of a traditional offering, its shares could trade down 6% to 12% off the previous day’s close. That, says Colucci, nets a deterioration of 10% to 20% going into pricing, once all costs are factored in. That is a burden borne exclusively by existing shareholders.

“Instead of saying ‘a week from Tuesday we are going to price the deal,’ we say, ‘we may, from time to time, raise up to $100 million at the market price.’” The key in controlling market reaction is the timetable: when the market for the issuer’s stock is high, it releases shares quickly.

Ravi Kamath, managing director and head of fixed income research at Global Hunter Securities LLC, agrees that the ATM offering’s attraction is its lower cost of issuance.

“No one can arbitrage that,” says Colucci. In some sense, the company has put a limit order on issuing shares. In multiple instances, MLV has raised capital at a premium to where a company’s stock has traded the week or two prior. This strategy relies on volatility and trading volume to succeed, so Colucci asks potential ATM issuers a couple of simple questions.

“Are you confident your stock will trade tomorrow? Will it do more than 100 shares?” The implied degree of management morale from these answers is worth noting. To the degree to which the company’s stock price correlates with the market, volatility can be harnessed when the company’s stock is trading above the target raise price. By contrast, a traditional deal is notoriously difficult to price in a volatile market environment, unless one has the ability to announce and price a deal in a day or two.

For a potential E&P issuer, ATMs are easy to gauge, unlike a traditional raise. With an average daily trading volume, one can get a sense for a minimum raise amount without being overly aggressive, Colucci says.

“If you are confident in your drilling program and have a good feel about what’s coming online when, and you know what the forward curve is, sizing an ATM is very predictable,” he says. ATMs are also a great way to help de-lever or make acquisitions.

“Do the acquisition, do an ATM, and pay down your debt,” he suggests. Then you aren’t robbing Peter to pay Paul, and that makes the acquisition accretive.

Spurred in part by the cost and reduced availability of debt-raising tools in the wake of the market collapse of 2008, ATMs have seen dramatic growth.

Savvy companies raise money when they can, not when they must. If a company raises money horribly, it can really do damage to stockholders, says Colucci, who has seen a few such bad deals in the life sciences industry.

“Guys can do toxic deals and hamstring the company, even one with great technology.”

Of the 463 follow-on raises this year, 24%—or 110 offerings—are ATMs. In 2009, the percentage was 17%.