IPO Underperformance Research Articles

The Performance of Option Pricing Models Estimating the Marketability Discount in a Pre-IPO Real-World Data Setting: Evidence from Europe

Abstract Valuation analysts adjust prices of private firm’s stock downward from their fully marketable counterparts, reflecting the private firms’ lower level of marketability. This discount for lack of marketability can be substantial in magnitude. This study examines the performance (according to bias and accuracy employing estimation error methodology) of seven popular option pricing models in generating discount estimates to coincide with empirically observed discount benchmarks (based on the pre-IPO methodology) in European Union member countries over the period 2004 until 2018. The results allow for the general conclusion that some option pricing models are superior in most settings, coinciding with their individual benefits and deficiencies. The detailed analysis indicates that (i) the superiority of these option pricing models holds for a wide range of periods of assumed restricted marketability, (ii) segmenting discount benchmarks according to their size improves the performance of the option pricing models, (iii) segmenting discount benchmarks according to both, the underlying volatility of stock returns and dividend yields, does not improve the performance of the option pricing models, and (iv) IPO underperformance has no material impact on relative option pricing model’s performance.

IPO underperformance and the idiosyncratic risk puzzle

We investigate the relationship between IPO long-run underperformance ( Ritter, 1991 ; Loughran and Ritter, 1995 ) and the idiosyncratic risk puzzle ( Ang, Hodrick, Xing, and Zhang, 2006 ) or the phenomenon of abnormally low returns for stocks with high idiosyncratic risk. We find that IPO long-run underperformance is a manifestation of surprisingly low returns for high idiosyncratic risk stocks. IPO underperformance disappears after we control for idiosyncratic risk. On the other hand, we find that the idiosyncratic risk puzzle is magnified by IPO underperformance. Our results are robust to various specifications or sample requirements. We evaluate a couple of potential common causes for the two puzzles and conclude that investors’ preferences for stocks with lottery features is the primary mechanism linking the two puzzles.

Greenness index: IPO performance and portfolio allocation

This study examines how the greenness of the firm affects the short- and long-term performance of IPOs. To measure the greenness of the firm, we develop the Greenness Index based on the emissions produced. We find that the greenness of the firms operating in services and financial sectors is higher than in other sectors. To examine the short- and long-run performance of IPOs, we classify our sample into high and low green firms. In the short-run, high green firms obtain a lower return than low green firms. However, high green firms perform better than low green firms in the long-run. This study also determines the factors that cause short- and long-run performance, and the results suggest that the firm’s greenness negatively influences initial returns and underperformance of IPOs. Finally, we develop a theoretical model in terms of the portfolio's allocation and assert that investors participate in high-green firms to optimize their portfolio.

Net deferred tax assets and the long-run performance of Initial Public Offerings

On average, firms’ going public severely underperform compared to the market, a phenomenon which is widely known in the literature as IPO underperformance. Though there is no generally accepted theory on the reasons, information asymmetries and the scarcity of information on the issuers is generally considered to contribute to the phenomenon. Accounting data provided by issuers in the offering prospectuses is mostly backward-looking information that is of limited use in forming expectations of future performance. This problem becomes even more pressing, given the increasing fraction of loss firms among IPOs. Net deferred tax assets (NDTA), however, are a balance sheet item that can be expected to include forward-looking information on future earnings. Reporting under IFRS, firms may recognize NDTA only to the extent, that positive income will be available in future periods. We, therefore, expect NDTA to be positively associated with the long-run performance of IPOs. Investigating a sample of firms going public in Germany between 2005 and 2015, we find that NDTA are positively associated with long-run stock price performance. The association is particularly strong among loss firms. Our findings are relevant especially to investors, who regularly have difficulties valuing loss firms. We show that firms which recognized NDTA perform much better in the aftermarket than those that do not have NDTA on the balance sheet. The most important lesson to be learned is that IPO firms that did not recognize NDTA will likely be very poor investments.

Do Australian IPOs Underperform in the Long-Run? Methodological Implications

Do Australian IPOs Underperform in the Long-Run? Methodological Implications

When and why do IPO firms manage earnings?

There is significant disagreement about whether, when, and why IPO firms manage earnings. We precisely identify the timing and motives behind earnings management by IPO firms. The period around an IPO is characterized by two events: the IPO itself and the lockup expiration. Both the raising of capital at the IPO and the exit by pre-IPO shareholders at lockup expiration create incentives for firms to manage earnings. To disentangle the effect of these events, we examine quarterly, rather than annual, abnormal accruals. We find no evidence of income-increasing earnings management before the IPO. However, IPO firms exhibit positive abnormal accruals in the quarter before and the quarter of the lockup expiration. Positive abnormal accruals are concentrated in less scrutinized firms and firms with high selling by pre-IPO shareholders. Moreover, we find that these accruals subsequently reverse and that such reversals contribute to long-run IPO underperformance.

The Long-Term Performance of IPOs, Revisited

We show that, contrary to post-issue horizons of three to five years, underperformance in the first year after going public cannot be explained by the Carhart (1997) model or extensions of the model proposed in prior research on long-term IPO performance. We find differences in the risk profiles of IPO and mature firms, as captured by differences in profitability and investment factor exposures, and heterogeneity across firms, as captured by firm fixed effects, to explain IPO underperformance. Both these explanations for IPO underperformance relate to firms’ survival probability: The remaining life expectancy of IPO firms is shorter than that of mature firms, on average. Unsurprisingly, firms with shorter life expectancy tend to underperform.

The role of internationalization on the IPO performance of service firms: Examination of initial returns, long-run returns, and survivability

This study examines the effect of internationalization on the initial and long-run IPO performance of service firms. The study discusses that pre-IPO internationalization of service firms contributes to the explanation of long-discussed IPO underpricing phenomenon, and underperformance of IPOs in the long-run. Sample of the study includes 1822 IPO issues conducted by US service firms between 1980 and 2009. Findings of the study suggest that international service firms leave less money on table in their IPOs compared to domestic service firms by providing significantly lower first day returns to their investors on their first day of public trading. Moreover, our findings provide evidence that 3-year cumulative abnormal returns and 3-year buy-and-hold returns of international service firms are significantly higher than domestic service firms, and international service firms outperform domestic service firms in both operating return on assets and operating cash flows in the post-IPO period. Lastly, the study documents that survival rate of service firms subsequent to an IPO issue increases with pre-IPO internationalization.

When and Why Do IPO Firms Manage Earnings?

We provide new evidence on the timing and motives behind earnings management by IPO firms. The period around IPOs is characterized by two distinct events: the IPO itself and the lockup expiration. Both the raising of capital at the time of the IPO and the large-scale exit by pre-IPO shareholders at lockup expiration approximately 180 days later create incentives for firms to engage in earnings management. To disentangle the effect of these two events, we examine quarterly, rather than annual, abnormal accruals. We find no evidence of income- increasing earnings management in anticipation of the IPO. However, IPO firms exhibit positive abnormal accruals in the quarter before and the quarter of the lockup expiration. We demonstrate that positive abnormal accruals are concentrated in firms for which we predict intense selling by pre-IPO shareholders at lockup expiration. We also confirm the findings of Teoh, Welch and Wong (1998) that positive abnormal accruals are associated with long-run IPO underperformance.

Asymetrická informace při primárních emisích akcií

Asymetrické informace patří mezi jednu z forem tržního selhání, která vede k nedokonalosti na trhu a k selhávání jeho efektivity. Na kapitálovém trhu se s notnou dávkou informační asymetrie můžeme setkat již při samotném vstupu společnosti na veřejný kapitálový trh, tedy při primárních emisích akcií (IPO). Při IPO může docházet k situacím, kdy více informovaná strana emitující společnosti zneužije svého postavení vzhledem k potenciálním investorům. Informační asymetrie pak může být identifikována jednak při samotném načasování IPO, zkoumána pak může být prostřednictvím efektů podhodnocení emisního kurzu a nižší výkonnosti akcií z primární emise. Následující článek se bude zabývat projevem informační asymetrie při načasování vstupu na burzu, signalizačním efektem při samotné emisi a také nižší výkonností akcií z IPO.

Underpricing, long-run performance and secondary-market liquidity: an empirical examination of Indian IPO market

In this paper, we study the underpricing, long-run performance of IPOs and the impact of underpricing on secondary market liquidity of IPOs which were issued in India during the period 2000–2008. The average underpricing for Indian IPOs is 37%. Uncertainty, information asymmetry and investor optimism are the factors which explain underpricing. The IPOs which take more time in getting listed on stock exchange after the close of the issue have higher underpricing. In the case of big IPOs, mature firms have less underpricing and the IPOs which have more lead managers have more underpricing. Calendar-time factor regression results show that IPOs underperform in the long-run. However, underperformance is more for big and more oversubscribed IPOs than that of small and less oversubscribed IPOs respectively. IPOs which are more underpriced in the primary market are more liquid in the secondary market and this relation holds for all the measures of liquidity used in the study.

The global recognition strategy of blue chips of the Russian and Commonwealth of Independent States (CIS) markets

This study examines the mechanisms through which companies domiciled within the Commonwealth of Independent States (CIS) overcome market segmentation barriers which are the legacy of the Soviet Union. In contrast to a conventional cross-listing mechanism, leading CIS firms pursue reverse cross-listing or single-listing strategies, selecting the London Stock Exchange (LSE) as their main or only capital-raising platform. This study documents short-term IPO underperformance for single-LSE and dual-listed firms, suggesting that listing in London is risky, and that firms should consider alternative capital-raising strategies. Recent national regulatory reforms, which are expected to both improve capital market conditions and to encourage firms to list domestically, present CIS firms with such an opportunity. Finally, this study shows that CIS blue chips outperform the UK market in the long-run. This effect is more pronounced for dual-listed firms that also outperform the Russian market.

Growth versus Margin and Castles in the Air: Evidence from Industry IPO Waves

We provide novel evidence supporting the view that stock prices of some firms in the early growth stage of their life cycle are set by optimistic investors fixated on sales growth. We identify these firms as those that went public during an industry IPO waves, had high sales growths but low gross margins in the first three years following the IPO. Consistent with overpricing, their stocks under-perform their peers by 0.92% per month during the subsequent four year period on a risk-adjusted basis, suggesting limits to arbitrage. This pattern is unrelated to the well documented long-run under-performance of IPOs.

Global shipping IPOs performance

We analyze the short- and long-run price performance of 143 global shipping IPOs listed during the 1984–2007 period in major stock exchanges, computing Buy-and-Hold Abnormal Returns (BHARs) and Cumulative Average Returns (CARs). We find the average underpricing for shipping IPOs to be 17.69%. The light underpricing is positively related to the age of the firm, the reputation of the stock exchange the IPO is listed in and the market condition of the period in which the firm went public, and negatively related to the reputation of the underwriters. In the long run, shipping IPOs underperform after a five-month holding period. Specifically, using the BHARs as a benchmark for long-run performance, we reveal that investors who buy immediately after listing and hold shares for 3 years will make a loss of 15.72%. The conclusions suggested by this survey of the global shipping industry surprises us regarding the maturity in the behavior of its investors.

UK IPOs: Long Run Returns, Behavioural Timing and Pseudo Timing

In this paper we examine a comprehensive set of 2,567 UK IPOs launched between mid-1975 and the end of 2004. We find compelling evidence of long run under-performance that persists for between 36 and 60 months post-flotation, depending on the precise method chosen to measure abnormal returns. Following Schultz (2003), we ask whether our results are consistent with pseudo-timing. Equally-weighted returns in calendar time provide further evidence of under-performance, a result that favours the Loughran and Ritter (2000) behavioural timing hypothesis rather than the Schultz (2003) pseudo-timing hypothesis. However, when we measure value-weighted returns in calendar time we find that abnormal returns are not significantly different from zero. To some degree, this result is consistent with the findings of other studies which show that IPO under-performance is concentrated in smaller firms. However, we also show that these value-weighted returns are heavily influenced by the high abnormal returns associated with UK privatisations.

Long-Run IPO Performances and Its Influencing Factors: The Case of Indonesian Stock Exchange

The objective of this study is to find whether Indonesian stock exchange will also show long-run underperformance of IPO or not, and what are factors influence the long-run underper-formance that happens in a company after IPO. Factors influencing IPO performances are repre-sented by four variables are age, time lag, issue size, and company size. Long run IPO perform-ance is represented by Buy-and-Hold Adjusted Return (BHAR). This study employs data from companies listed in Indonesian Stock Exchange (IDX), which are going public from 2000 to 2005. The results show that Indonesian Stock Exchange Market does not show underperformance long-run IPO, and there is a positive relationship between the number of shares offered at the going public period and its long-term performance. However, the other variables used (i.e. age, time lag, and company size) do not influence the long-run IPO performance in Indonesian Stock Exchange. Keywords: initial public offering, long run performance, underperformance

Merging Activity as a Rational Explanation for the Long-Run Underperformance of IPO

Merging Activity as a Rational Explanation for the Long-Run Underperformance of IPO

Institutional versus Individual Investment in IPOs: The Importance of Firm Fundamentals

AbstractConsistent with institutions having an advantage over individuals, we find that newly public firms with the highest levels of institutional investment significantly outperform those with the lowest levels. While prior literature has attributed much of institutions’ higher returns around various corporate events to private information, we find that much of the difference simply reflects better interpretation of readily available public information. Individuals disproportionately invest in the types of firms that earn significantly lower abnormal returns over the long run. Individuals either disregard or misinterpret the relevance of readily available public information, and as a result, they bear the brunt of IPO underperformance.

Global Shipping IPOs Performance

We analyze the short and long-run price performance of 143Global Shipping IPOs listed during the 1984-2007 period in major Stock Exchanges computing buy and hold abnormal returns (BHAR) and cumulative abnormal returns (CAR). We find average underpricing for shipping IPOs is 17.69%. The light underpricing is positively related to the age of the firm, the reputation of the stock exchange they reach listing and the market condition of the period they go public and negatively related to the reputation of the underwriters. In the long-run, Shipping IPOs underperform after five months holding period. Specifically using the buy-and hold returns as a measurement for long-run performance, we find that investors who buy immediately after listing and hold shares for three years will make a loss of 15.72%. The survey suggests that global shipping industry surprises us regarding the maturity in the behavior of its investors.

Predicting and Explaining IPO Underperformance

Based on a new methodological framework we investigate IPO (under-)performance in a sample of 7,378 firms going public in the 1975-2005 period. We explicitly vary the time horizon in our analysis and document a significant underperformance of IPO firms over the first year after going public, while there is virtually no underperformance thereafter. Moreover, by decomposing the Carhart-alpha we find that IPO underperformance, where present, is due to fundamental differences in firm characteristics (e.g., market-to-book ratio, leverage, and R&D expenditures scaled by sales) between IPO companies and more seasoned, non-issuing firms. In fact, our results indicate that IPO firms neither perform materially better nor worse than mature companies with similar firm characteristics. Finally, we show that IPO underperformance is partially predictable. IPOs associated with overly optimistic growth prospects (and correspondingly high valuation levels) and IPOs going public during hot issue periods perform substantially worse than other IPOs.