INITIAL PUBLIC OFFERINGS IN INDIA – A STRUCTURAL REVIEW

Attributes of Companies Making IPOs in India - Some Observations

The study examines the impact of quality certification of initial public offerings (IPOs) arising out of lead manager’s reputation, grading by credit rating agencies, presence of anchor investors and the reputation of auditors on the level of IPO underpricing. The mean initial excess return that measures the level of IPO underpricing is 22 per cent based on a sample of 399 IPOs made by Indian companies during the period from April 2005 to March 2015. Contrary to expectations, nearly 37 per cent of the IPOs do not provide a positive initial excess return. Univariate analysis reveals that except for IPO grading, the other quality certification variables do not make a significant impact on the level of underpricing. Graded issues are more fairly priced compared to non-graded issues. The Securities and Exchange Board of India (SEBI), the capital market regulator, has recently done away with mandatory grading of IPOs. As graded issues have been observed to improve pricing efficiency, SEBI should reconsider its decision and reintroduce compulsory IPO grading. Multivariate analysis, that includes other variables, such as issue size, level of subscription and promoters holding, reveals that the two variables that have a significant influence on initial excess returns from IPOs are the issue size and the level of oversubscription of the IPO.

In initial public offerings (IPOs), underpricing refers to pricing the issue at a price lower than its fair value which results in the listing price being much higher than the issue price. This higher information asymmetry results in more underpricing. To reduce such asymmetry, the Securities and Exchange Board of India (SEBI) introduced IPO grading and anchor investor participation in India. This article aims to assess the impact of these two factors on the underpricing of Indian IPOs over 2007–2017. This study uses multivariate regression analysis to compare the impact of graded versus ungraded IPOs and of anchor-backed versus non-anchor backed IPOs on underpricing; it finds that IPO grading and anchor investment do not have a significant overall impact on underpricing. These results justify the scrapping of mandatory IPO grading. Although insignificant, IPO grading has a greater influence on underpricing than anchor investor participation. Furthermore, the current study also analyses the subscription patterns of qualified institutional buyers (QIBs), non-institutional investors (NIIs) and retail individual investors (RIIs) and their influence on one another. Accordingly, it reveals that QIB subscription influences both NII and RII subscriptions.

The IPO Issue Process

Companies going public are mandated by the Securities and Exchange Board of India (SEBI) to disclose the purpose for which the funds are being raised. However, it is unknown if such disclosure is actually being used by investors in India while making decisions regarding the price. The study tries to understand the value of such information to investors. This study investigates the impact of disclosed use of offer proceeds on the issue price and listing price, thereby providing a more comprehensive understanding of price formation in the primary market. Utilizing a sample of 195 initial public offerings (IPOs) issued between 2010 and 2021, we examine the impact of the intended use of proceeds disclosure on the offer price and the average listing price. To empirically investigate our hypotheses, we first apply principal component analysis to consolidate the various use-of-proceeds disclosures into five factors and then estimate their impact on the offer price and list price using multivariate ordinary least squares (OLS) regression models with appropriate control variables. The findings suggest that allocations for capital expenditure and debt repayment are positively associated with higher prices. When funds are intended for capital expenditure and debt repayment, the offer price and the average list price are higher. In contrast, using proceeds for working capital, advertising, business promotion, and general corporate purposes shows no significant influence. While prior studies have primarily focused on initial returns, this study uniquely analyzes how specific categories of fund utilization influence IPO pricing, specifically, the offer and list prices, in the Indian capital market.

The number of initial public offerings (IPOs) in the United States has been much lower since 2000 than in the preceding two decades, although there was a surge in IPO activity in 2021. The Securities and Exchange Commission (SEC) has attempted to reduce the regulatory and cost burdens of going public. Important new developments in the U.S. IPO market include confidential filings, testing the waters, direct listings, and special purpose acquisition companies (SPACs). Related research sheds light on whether the new developments can help capital formation and lower the costs of going public. Also relevant are the motives for going public, new insights into IPO pricing, institutional investors’ pre-IPO investments, and the consequences of firms’ IPO decisions. In the U.S., the majority of IPOs have used the bookbuilding mechanism, which involves generating and recording investors’ buying interests. Different companies prefer different mechanisms for going public. Bookbuilding is valuable for companies that face uncertainty regarding investor demand. A private firm may prefer selling itself to a publicly traded acquiring firm over an IPO in order to expand more quickly by utilizing the acquirer’s capital and established platform. A high-growth firm may prefer a merger with a SPAC over a traditional bookbuilt IPO due to the ability to use solid forecasts to increase the stock’s valuation. And companies with strong brand recognition or easy-to-understand business models, but no immediate cash needs, may find a direct listing more attractive, especially when their insiders have large diversification or liquidity needs. The SEC and other regulatory agencies should embrace and enhance these alternative mechanisms. Economies-of-scope considerations, globalization, regulatory and disclosure requirements, and the relative costs of public versus private capital all play a part in firms’ decisions to go public. Careful examinations of the benefits and costs are still needed. Possible widespread use of confidential filings and testing-the-waters communications after the regulatory changes initiated by the 2012 JOBS Act can substantially influence information production, IPO decisions, and IPO pricing. Private companies have increasingly used direct listings and SPAC mergers to go public, and emerging evidence suggests these methods will continue to evolve. Several recent papers have examined IPO underpricing across countries, and their findings are consistent with both information-asymmetry-based explanations and those based on issuer–underwriter conflicts. Information asymmetry helps explain the 7% average IPO underpricing in the U.S. during the 1980s. However, explanations based on agency problems, underwriter power, and issuer complacency are instructive for understanding the average underpricing of over 18% for all IPOs since then or over 50% for large subsets that can be identified ex ante. Future research would be useful to shed light on the predictability and magnitude of IPO underpricing, as well as on the effects of regulations and issuer–underwriter conflicts on underpricing. Recent research shows that IPOs have far-reaching effects. They not only influence the financing and investment policies of the issuing companies, but also have spillover effects to other companies, local communities, and labor markets.

This paper is motivated by the apparent belief that IPOs are underpriced on the initial listing day and thereafter underperforms compared to the market benchmark. While evaluation of the listing day performance seems straightforward on surface, it actually invokes several complications for the subsequent performance measurement. This paper focuses on the evaluation of price performance of IPOs up to a period of 36 months including the listing day. It also examines the usefulness of IPO characteristics at the time of issue to seek an explanation for the post-issue price performance. The paper presents fresh evidence on IPO performance, i.e., short-run underpricing and long-run underperformance for 92 Indian IPOs issued during the period 2002–2006. It is reported that on an average the Indian IPOs are underpriced to the tune of 46.55 per cent on the listing day (listing day return vis-à-vis issue price) compared to the market index. Another contribution of this paper is the evaluation of the long-run post-issue price performance of Indian IPOs. The long-run performance of IPOs up to a period of 36 months are measured by using the two most promising evaluation techniques, i.e., wealth relative (WR) and buy-and-hold abnormal rate of return (BHAR), both being adjusted with market index, CNX-Nifty. Further, the results evidence that the underperformance is most pronounced during the initial year of trading, i.e., up to 12 months from the listing date followed by over�performance. To get possible explanations for long-run underperformance for Indian IPOs, factors like underpricing rate (listing day return), offer size, leverage at IPO date, ex-ante uncertainty, timing of issue, age of IPO firm, rate of subscription, promoter groups retention, and price-to-book value (as proxy for growth) are considered. Evidence is found, that initial day return, offer size, leverage at IPO date, ex-ante uncertainty, and timing of issue are statistically significant in influencing underperformance. However, there is no evidence favourable to the age of the IPO firm, rate of subscription, promoter group's retention, and price-to-book value impact on the long-run underperformance. The empirical results suggest that the investors who are investing in IPOs through direct subscription are earning a positive market-adjusted return throughout the period of study. But investors who have bought shares on the IPO listing day are earning negative returns up to 12 months from the listing date and expect to earn positive market-adjusted return thereafter. For future research, we suggest the extension of this analysis for additional explanatory variables including issue fundamental characteristics of IPO firms. The scope of the research study could even be improved by extending the time period of study prior to 2002.

PurposeThe purpose of this paper is to investigate the changes in initial public offering (IPO) underpricing and short‐run performance following a regulatory reform (No. 54 [2002] China Securities Regulatory Commission (CSRC)) of the method of allocating IPO shares in China.Design/methodology/approachOn 20 May 2002, the CSRC announced that IPO subscription and allotment would be based on the market value of investors' tradable shareholdings. Before the regulatory change, this was determined by the amount of funds used for subscription. The reform was intended to increase participation by both smaller and institutional investors. Based on a sample of 209 IPOs in the Shanghai A‐share market during the period 2001‐2003, the paper employs an event study methodology to examine the impact of this IPO regulatory reform.FindingsThe paper finds that the overall (pre‐ and post‐reform) average abnormal initial return of 116.94 per cent is lower than in earlier studies of Chinese IPOs but higher than in other markets. Post‐reform underpricing decreases by 42.27 per cent compared to pre‐reform levels. In the post‐listing aftermarket a pre‐reform upward trend of cumulative abnormal returns was reversed to become downward post‐reform. The results suggest that the regulatory change has encouraged well‐informed investors, consistent with Information Cascades and Bandwagon hypotheses. It also appears that the reform improved market efficiency and secondary market liquidity.Originality/valueThe findings shed light on the relationship between IPO costs, IPO pricing, market liquidity and market microstructure. They also have important implications for issuers, underwriters and in particular for policy markers.

PurposeThe purpose of this paper was to examine whether or not the sponsor lock-up ratio, lock-up period, regulation changes and interaction variable (oversubscription [OSR]) affected initial public offering (IPO) initial return.Design/methodology/approachA complete sample of 111 listed IPOs in Pakistan stock exchange from 1996 to 2018 was incorporated. Based on the cross-section data, this paper estimated using ordinary least square and quantile least square for robustness. In addition to that, this paper estimated the data using stepwise least square to inspect the signalling aspect of the lock-up ratio, lock-up period and regulation changes on IPO initial return.FindingsThis study showed that the lock-up ratio, lock-up period and regulatory changes had a positive impact on the IPO’s initial return. Furthermore, the assertion of interaction variable (regulation changes × OSR) and (lock-up period × OSR) was a negatively significant factor in influencing the IPO’s initial return. The results of this paper were robust to endogeneity bias.Practical implicationsThe finding of this study proposed that sponsors of IPOs can be a strong signal of risk or quality, which was consistent with the signalling theory prediction. Concurrently, investors must be aware of the total proportions of lock-up ratio so that they can estimate the chances of getting the highest initial return on IPOs. From the regulators’ point of view, it is suggested that the lock-up ratio and the lock-up period should be determined with a deeper understanding and incorporated into the equity guidelines as it is evident that these factors are priced by the market.Originality/valueStudies on the effect of sponsors have always been centred on well-recognized firms. Therefore, using the IPO samples listed in Pakistan, this paper contributes to the IPO literature by investigating the lock-up ratio of the sponsor, the lock-up period and the regulatory changes to the initial IPO return. Additionally, OSR has been introduced as an interaction variable among the sponsors’ lock-up period and regulations changes to explain the ongoing IPO initial return phenomenon.

It is believed that underpriced initial public offerings (IPOs) are undervalued. To empirically test this belief, the present study examines valuation of 292 Indian IPOs listed from 2004 to 2013. In this regard, three questions are posed: first, whether the valuation (P/E multiples) of the industry and comparable peer can explain valuation (‘offer price P/E’ multiple) of IPO firms; second, whether the IPOs are undervalued or overvalued in relation to industry peers; and third, whether the IPOs undervalued (overvalued) in relation to peers are underpriced (overpriced). The results suggest that industry and comparable peer valuations do explain IPO valuation. It was found that there are both undervalued and overvalued IPOs in India. However, IPOs can be underpriced regardless of whether they are undervalued or overvalued in relation to industry/peers. Therefore, retail investors should not consider all underpriced IPOs as undervalued and cheap. IPOs may be priced above industry and yet generate positive initial returns (be underpriced). The IPOs valued below the comparable peers can generate higher initial returns. Thus, the present study contributes in providing relation between pricing and valuation of IPOs in India using industry/peer benchmark provided in prospectus so that retail investors can take appropriate decision about subscribing for an IPO.

The initial public offering (IPO) is one of the most critical events in the lifetime of a young firm. Prior research has shown that firms tend to have successful IPOs if they go public with the endorsement of a prestigious lead underwriter. This paper examines the antecedents to receiving endorsement by a prestigious underwriter and links this to the experience base of a firm's upper echelon. We theorize that the amount and type of upper echelon experience serve as important symbols of a young firm's legitimacy to critical outsiders. We introduce a typology of upper echelon experience that distinguishes between upper echelon upstream, horizontal, and downstream employment-based affiliations and suggest that these different types of upper echelon affiliations allay different types of endorser concerns regarding firm legitimacy, affecting the endorsement process. Further, we theorize that the relationships between upper echelon experience and investment bank prestige will be moderated by technological uncertainty. We test our assertions on a comprehensive sample of public and private biotechnology firms that were founded between 1961 and 1994 and that went public between 1979 and 1996. Analyses of the five-year career histories of the over 3,200 executives and directors that make up the upper echelons of these firms show that firms with upper echelons with affiliations with prominent downstream organizations (i.e., pharmaceutical and/or healthcare companies) and with prominent horizontal organizations (i.e., biotechnology companies) are more likely to attract the endorsement of a prestigious investment bank. We also find that the greater the range of upper echelon affiliations across the categories of upstream, horizontal, and downstream affiliations, the more prestigious the firm's lead underwriter. We also find that these latter results are moderated by technological uncertainty. The present research has implications for the study of organizational legitimacy, interorganizational endorsements, and entrepreneurship.

PurposeThis paper aimed to explore the effect of a regulatory change pertaining to earnings forecasts disclosure from a mandatory to a voluntary regime on the valuation of Malaysian initial public offerings (IPOs).Design/methodology/approachThe study employed ordinary least square (OLS) regression and quantile regression to analyse the impact of disclosure of earnings forecasts regulation on the valuation of IPOs which comprised 458 IPOs reported for the period 2000–2017 on Bursa Malaysia.FindingsThis paper revealed that the regulatory change in forecasted earnings disclosure from a mandatory to a voluntary regime, effective from 1 February 2008, had a negative impact on the valuation of IPOs. The regime change did not improve the transparency of firms issuing IPOs. In fact, the absence of forecasted earnings information in most IPO prospectuses causedex anteuncertainties to increase. Voluntary disclosure, however, had a significant positive relationship with the valuation of the IPOs issued during the global financial crisis period (2008–2010). Firms concealed their poor qualities by excluding forecasted earnings information from their prospectuses in order to have a fair valuation.Practical implicationsThe findings may be used by policymakers as guidance in improving the existing regulation regarding the disclosure of forecasted earnings.Originality/valueThis paper provides new insight on the effect of a regulatory change pertaining to earnings forecasts disclosure from a mandatory to a voluntary regime on the valuation of Malaysian IPOs. It also provides evidence that the regulatory change of earnings forecast disclosure affects the IPOs' values listed during the global financial crisis period.

Private equity (PE) is one of the important sources of financing. The certification hypothesis associated with PE investment influences the performance during the process of going public. The listing day performance of initial public offerings (IPO) is significantly influenced by various financial intermediaries involved in the IPO process due to certification effect associated with their reputation. In this study we try to evaluate certification and grandstanding hypothesis associated with PE investors in IPO market. Our empirical results refute certification hypothesis since the PE investment does influence the IPO performance. However, the ownership stake of PE investment has negative impact on the first day of IPO performance. This supports grandstanding hypothesis where the ownership stake and the urge of PE investors in liquidating the stake determines the IPO performance. The insignificant ownership stake held by private equity investors is a consequence of regulatory constraint. The insignificant impact on long-term IPO performance is also due to insignificant ownership stake retained after IPO. In addition, it is also observed that business group affiliated firms have lower degree of IPO underpricing. The overall performance of IPO follows 'U' shape curve indicating positive performance in the short term and long-term.

Higher participation of retail investors in the New Issue Market (NIM), specifically of Initial Public Offerings (IPOs), has been causing concern regarding the extent of financial literacy and well-informed decision-making expected of them. The current review paper critically analyzes the financial literacy of retail investors in the context of the NIM, specifically their comprehension of benefits, risks, regulatory protection, and common myths. While IPOs are typically high-return investments, retail investors as a whole undergo the process without much knowledge of the processes involved, e.g., pricing mechanisms, allocation procedures, and disclosure mandates. Such surface-level knowledge will typically lead to unrealistic suppositions and a higher susceptibility to market speculative and hype situations.The research also addresses popular misconceptions in IPO investment — that every IPO is profitable or that an oversubscription is a sign of quality — and examines the impact on the behavior of investors. The article also points out the useful role of the Securities and Exchange Board of India (SEBI) towards investor education, bringing transparency, and practicing regulation through regulatory protective mandatory disclosures like the Red Herring Prospectus and warning investors against risk. Drawing on secondary data and thematic synthesis of the literature, the paper highlights the necessity for focused financial literacy interventions in bridging the gap between awareness and in-depth understanding of the NIM among retail investors.

PurposeIn initial public offerings (IPOs), the media plays a pivotal role by disseminating the information to the investors who generally lack the expertise to understand the information through the prospectus. Thus, media coverage can impact the investment decision of the investors and the IPO performance. Media typically covers the IPO before listing, suggesting that it may play an important role in explaining the opening price rather than the closing price on the day of listing. Therefore, this study aims to disaggregate the traditional IPO underpricing into three categories: voluntary, pre-market and post-market and provides a comparative analysis of the media sentiments impact on the traditional and disaggregated IPO underpricing. The authors’ disaggregated IPO underpricing analysis will facilitate the investors in making an effective investment strategy based on media sentiments.Design/methodology/approachThe study deploys sentiment analysis using bags of n (2) grams approach to gauge the sentiments on 2,891 media articles and uses “robust-regression” technique to analyze them on a sample of 222 Indian IPOs during 2009–2018.FindingsThe study reports that the sentiment score is positively related to the traditional underpricing; the sentiment score is positively associated with the pre-market underpricing and does not have any significant relationship with the post-market underpricing; the number of media articles does not play a significant role in explaining the IPO underpricing. The findings highlight the presence of a semi-strong form of efficiency in the Indian IPO market.Originality/valueExisting literature focuses that the role of media on IPO performance is based on the developed countries. IPO laws differ based on the countries. For instance, in India, investors can check the demand by the other categories of investors on a real-time basis. Thus, it is interesting to study whether, with such a high level of transparency, media can explain IPO performance in the Indian market. Media generally covers IPO before listing; therefore, the present study disaggregates the IPO underpricing to evaluate the role of media on the primary and secondary market separately. It will help the investors to decide when to enter and exit the market.