Abstract
This study examines the relationship between price support, valuation and returns in a unique sample of 114 firms going public at Borsa Istanbul. I utilize disclosed information in pre-issue prospectuses and valuation reports as well as post-issue material event files to document that: initial public offerings implementing price support have lower initial and short-term returns, and larger optimistic valuation bias relative to offerings without price support. Tests show that underwriters’ valuation bias increases the probability of implementing price support, and one standard deviation increase in price support is associated with a 19.4% decline in short-term returns, after controlling for the selection bias associated with simultaneously deciding the offer price and price support.
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Notes
Although implications of this hypothesis are consistent with the overvaluation and underwriter optimism argument, the exact valuation procedure in the US is confidential and valuation estimates are based on earnings multiples, whereas underwriters frequently use other multiples and valuation techniques, such as market-to-book multiple, dividend discount model and discounted cash flow (DCF) method. In my sample, peer multiples method carries 47% average weight, and DCF method carries 39% average weight on the fair value.
Note that this argument does not hold for fixed price offerings as investors cannot negotiate the offering price.
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Appendix: List of variables
Appendix: List of variables
Variables | Definition | Source |
|---|---|---|
Age | IPO year minus incorporation year. | Prospectus |
Family | Dummy variable, equal to 1 if family owned at the time of IPO, 0 otherwise. Two or more members of a family must hold at least 50% of ordinary shares and at least 1 member of family must sit on board to qualify as family firm. | Prospectus |
Lockup | Number of days from first trading date to the first date insiders are allowed to sell their shares. | Prospectus |
Participation ratio | Percentage shares sold by existing shareholders at IPO. | Prospectus and post-issue reports |
Capital increase ratio | Percentage new shares issued relative to pre-issue equity. | Prospectus and post-issue reports |
Public ratio | Percentage shares public following completion of IPO. | Prospectus and post-issue reports |
Support ratio | Percentage IPO proceeds used to support share price in the aftermarket, calculated as amount spent on stabilizing bids divided by total proceeds. | Post-issue reports |
PriceSupport | Dummy variable equal to 1 if underwriter places stabilizing bids in the aftermarket, 0 otherwise. | Post-issue reports |
Bias | Percentage deviation of the underwriters’ estimated fair value from the first day market capitalization. Bias is calculated as fair value minus first day value, divided by first day value. Fair value for bookbuilding offerings is midpoint of the offer price range. | Valuation reports, own calculation |
Optimism | Dummy variable representing optimistic valuation bias, equal to 1 if underwriter overprices the issue, 0 otherwise. | Valuation reports, own calculation |
DD | Percentage deliberate discount offered by underwriters over estimated fair value, and midpoint discount for price range offerings calculated relative to realized offer price. | Valuation reports, prospectus |
Underpricing | Percentage initial return calculated as first day closing price divided by offer price, minus 1. | BIST Data Store, own calculation |
InvMills | Inverse Mills ratio is computed from the Probit1 regression using Eq. 1, to control selection bias related to valuation error. | Probit |
Size | Natural logarithm of the first day market capitalization. | Own calculation |
Bookbuilding | Dummy variable equal to 1 if offering is a price range offering, 0 otherwise. | Prospectus |
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Tutuncu, L. Initial public offering price support, valuation, and returns. Eurasian Econ Rev 10, 267–282 (2020). https://doi.org/10.1007/s40822-018-0124-2
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DOI: https://doi.org/10.1007/s40822-018-0124-2