Performance and distress indicators of new public companies

Abstract

This study investigates after-market returns and incidence of bankruptcies and distress relative to performance and distress indicators for new public companies. The study includes firms that had an initial public offering (IPO) during the period 1995–2002. Performance measurements include after-market returns, number of bankruptcies, and number of ‘distressed’ firms. I identify firms as being ‘distressed’ if the firm's stock price loses 95 per cent of its market value within two years from the first month-end price after going public. I further investigate the significance of ‘ex ante’ (pre-event) financial distress indicators present at the time companies go public and other indicators to predict after-market performance of IPO firms. I use the O-ratio, a measure of bankruptcy risk, from Ohlson's (1980) model and investigate its ability to predict bankruptcy and stock performance for these new companies. The study also examines the impact of market-to-book ratio and underwriter quality on after-market performance of IPOs. The findings of this study may be useful to those who hold new public companies in their asset portfolios. The study might be particularly interesting to institutional investors, venture capitalists, and individual investors who regularly follow the performance of new IPOs. The results of the study indicate that using Ohlson's (1980) O-ratio, the market-to-book ratio, and underwriter quality as selection criteria may result in a portfolio of IPOs which performs above average.