Venture Capital Seekers Consider DPOs

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Venture Capital Seekers Consider DPOs

A Washington finance company offers an alternative to initial public offerings

By Tania Anderson, Staff Writer

Three Arrows Capital Corp., Bethesda, Md., is offering Washington area companies a new way to venture out into the public marketplace. The firm, started by Ron Peterson in June 1996, is underwriting direct public offerings for companies unable to attract venture capital and not ready for initial public offerings.

The high-tech community is examining direct public offerings as an alternative form of financing. Peterson and others are currently working with high-tech companies that may be announcing direct public offerings in the next 12 months.

A direct public offering is stock offered directly to the market and capped at $1 million under exemptions to the Securities and Exchange Commission's Act of 1933. That act requires companies to register public offerings of securities with the SEC before they are sold to the public. It also states that securities must include a prospectus and financial information about the company.

Exemptions to the act allow companies to file through the securities commission in their own state rather than with the SEC. If companies want to raise more than $1 million, they can file for an additional offering for another $5 million with the SEC's Small Business Office 12 months after a company's first offering.

Another major difference between a private stock placement and a direct public offering is the ability to widely advertise the direct public offering and actively recruit investors. Also, 90 percent of the shares in direct public offerings are typically purchased by investors located within a 50-mile radius of the company itself.

An initial public offering, on the other hand, does not have a ceiling. Companies decide how many shares to offer and underwriters set the values of those shares. For example, Netscape had one of the highest valued initial public offerings in high-tech in August 1995. The company raised $140 million. Initial public offerings in the Washington region during the past two years have included $12.8 million raised by BTG and $163.5 million raised by America Online.

In some cases, a direct public offering is a stepping stone toward an initial public offering.

"We have seen companies that get financing through venture capital, a DPO and an IPO," said Peterson.

According to Peterson, companies in Virginia and Maryland have been filing direct public offerings for the last two and a half years but the pace is accelerating. Direct public offerings are more popular in the Pacific Northwest, he said.

The firm's first direct public offering in November 1996 for Primary Care Centers of America Inc., a group of physicians based in Washington, raised $1 million. Its next two direct public offerings will be a local high-tech company and pharmaceutical company. Peterson's company has also signed Philadelphia-based Media Solutions and a pharmaceutical company in Baltimore for direct public offerings.

Three Arrows charges a commission and takes an equity stake in the company. Peterson thinks his firm will be able to underwrite another 12 or more direct public offerings in the coming year. He expects the majority of his direct public offerings to be information technology and biotechnology companies.

"In the information world, businesses need money to invest in software and hardware, and a banker has a hard time understanding what the value of that is in the secondary market," said Peterson, who plans to increase his staff of six to 10 to accommodate growth.

Peterson said direct public offerings have not hit the Washington area sooner because they have not always been widely available. Conventional brokers and dealers prefer initial public offerings because they typically involve active stockholders and are a "liquid security," he said. Direct public offerings are invariably held for a longer period of time by purchasers, he said.

Mark Rust, who tracks initial public offerings for Ferris Baker Watts, Baltimore, said his investment banking firm does not underwrite direct public offerings.

Jeffrey R. Houle, corporate securities attorney for Elias, Matz, Tiernan & Herrick LLP, Washington, agrees with Peterson that direct public offerings are relatively new for the Washington area.

"We're not talking about a whole lot of money," said Houle. "DPOs are a good vehicle for the appropriate business."

Houle, who is currently advising a high-tech company in Washington that plans a direct public offering, said a company must consider the nature of its business and the amount of capital it would like to raise.

Peterson knows about competition from 25 years in the brokerage business before starting Three Arrows. He served as both a retail and institutional broker at Dean Witter, Merrill Lynch and Prudential Securities.

The name of the firm symbolizes protection in Native American mythology.