Selling to the sell-side: The importance of research coverage
Why isn’t anyone covering our stock? How can we get the sell-side’s attention? Should we engage one of the paid-for research providers?
NATIONAL Capital Markets gets asked these questions all the time.
For public issuers, sell-side research coverage is highly valuable for attracting investors who might not otherwise have you on their radar screen. Yet obtaining sell-side research coverage is often a real challenge, especially for small-caps. In this post, we’ll take a look at why research coverage matters, as well as the challenges to obtaining it and how to overcome them.
Why it matters
The majority of investors rely on some formal analysis when making their investment decisions. Sell-side research analysts help shape capital markets through their interactions with underwriters, brokers, institutional investors, and management. A major aspect of what a sell-side research analyst does, is to provide on-going research reports to their firm’s clients. These research reports include the analyst’s financial estimates, price target, and a recommendation as to the covered stock’s expected performance. Ultimately, the role of the sell-side analyst is to convince institutional accounts to direct their trading dollars through the trading desk of the analyst’s firm. Clearly, establishing formal research coverage should always be a priority for a public issuer.
The challenges for small-caps
In general, the sell-side focuses more on well-known, larger-cap companies, due, at least in part, to the larger flow of trading commissions. As a result, many smaller companies have fewer sell-side analysts covering their stock (if any at all). Compounding the problem is the fact that the analyst population has gotten considerably smaller over the years (due in part to cost cutting during market downturns). With less analysts in a particular space, the number of companies being covered is also less. The resulting decline in formal analysis is particularly noticeable when it comes to smaller companies.
While many small-cap companies try to make up for their lack of sell-side coverage by paying for research from independent providers, many would argue that paid for research simply does not measure up. For starters, the credibility of paid for research is often in question, with the resulting reports generally considered biased and therefore usually discounted. Add to that, paid for research simply does not have the leverage of sell-side research – the sales force.
Persistence can pay off
It might be difficult and it might take considerable time to win the attention of the sell-side, but persistence typically pays off. It is worth noting that it may take several quarters, or more, of meeting with the right target analysts in your space before they potentially initiate coverage. That is partly due to bandwidth, and the fact that analysts typically wish to follow a company’s progress against stated milestones to gauge their managerial effectiveness and the merits of their business plan.
To increase your chances, in addition to strong business fundamentals, you need to make sure your investment proposition is compelling and effectively communicated to the right audiences. Simply put, the investment in a well-executed investor relations strategy with an emphasis on building relationships with the sell-side is time, money and effort well spent.