Analyses of Performance, Risk and Underpricing of Indian IPOs

Abstract

Across geographies, unlisted firms raise capital from individuals and institutions by issuing Initial Public Offering (IPO) through finanical markets. IPOs are of great interest to investors, regulators, issuing firms and financial researchers alike. In this thesis we longitudinally analyze the daily performance (in terms of buy and hold abnormal returns) for three years and daily (total, systematic and unsystematic) risk for one year after the launch for Indian IPOs. We also study the globally occurring stylised phenomenon of underpricing in the context of Indian IPOs. We consider a comprehensive set of financial fundamentals of the issuing firms and several IPO specific variables that might be significantly associated with these IPO characteristics, after controlling for the prevailing market and macroeconomic conditions in which the IPOs are launched. While we employ routine multiple and logistic regression, and regression and classification trees to investigate the associative relationships, we enhance and use an existing algorithm for time series factor analysis to measure and quantify the control variables capturing the prevalent macroeconomic conditions.

Using the above methodology and a sample of 324 IPOs launched in the National Stock Exchange, India from 1999 to 2016, it is found that on an average, the performance of Indian IPOs deteriorates both in the short and long run. Though endogenous firm/IPO-specific variables such as age, percentage of stakes diluted by the promoter and non-promoter group in the IPO, etc. are found to be significantly associated with the IPO performance, the exogeneous market and macro-economic conditions during the launch of an IPO are also found to play critical roles in determining its performance. It is found that the IPO risk is primarily associated with the macro-economic conditions in which the IPOs are launched and no firm/IPO-specific variable is found to have any significant association with the risk of investing in an IPO. The average quantum of underpricing (first day return) for the sample of 324 IPOs is found to be 22.5%, with 66.1% of them being (just categorically) underpriced. Like their performances, while several endogenous firm/IPO-specific variables such as earnings per share, percentage of secured loan, growth rate of pre-tax profit margin etc. are found to be significantly associated with underpricing, the main takeaway of the analysis is that it is the exogeneous market sentiment that is the primary determinant of underpricing. IPOs launched in a bull market are more likely to be underpriced, and it is also found that most IPOs are also launched when the market is ascending. This is proferred as an alternative explanation for the empirically observed global phenomenon of IPO underpricing, at least for the case of the Indian IPOs.