Investor Protection Mechanism and IPO Valuation on the Kuala Lumpur Stock Exchange

Abstract

August 2002 Abstract In this paper, two important features of the IPO market in Malaysia since the mid-1990s are examined. The first relates to IPO profit guarantee, an exotic mechanism introduced in 1995 to moderate the power of the controlling shareholders to oppress the minority shareholders. The second relates to the regulatory shift from merit-based regulation to disclosure-based regulation in 1996 when the IPO regulator no longer intervened in the IPO price setting mechanism. The paper examines the valuation impact of IPO profit guarantee as an investor protection tool, and the structural changes in IPO pricing for the period before and after deregulation. The evidence points to the paradoxical role of the IPO profit guarantees. Prior to the Asian financial crisis in the third quarter of 1997, investors are willing to pay more for the IPO shares the more the controlling shareholders guaranteed the forecasted profits, consistent with La Porta, Lopez-De-Silanes, Shleifer and Vishny (2002). However i n the aftermath of the crisis, IPO profit guarantees no longer affect IPO valuation. The evidence also lends support to Habib and Ljungqvist (2001) entrepreneurial wealth losses minimisation hypothesis whereby when IPO entrepreneurs are given the freedom to set the IPO price, they take into consideration their IPO participation ratio in arriving at the IPO offer price.