IPO Under-Pricing


Uber’s IPO (initial public offering) is the largest U.S. initial stock offering in 2019. Uber, a company offering ride-hailing services, made its stock market debut at the New York Stock Exchange on 10 May 2019 with an initial offering price of $45 per share. Uber’s shares closed at $41.57, representing a one-day drop of 7.6%. By offering 180 million shares of ordinary shares to the public, Uber raised around $8.1 billion through the IPO. Despite its disappointing first day trading performance, institutional investors and hedge funds have been heavily investing in Uber’s shares (Strauss, 2019). However, Uber’s shares price has fallen more than 28% since its IPO.

You are the CFO at SmartEdu System. Your company provides advanced student management system to vocational education and training institutions and higher education institutions. The CEO of SmartEdu System has decided to raise capital through an initial public offering. He is going to propose the plan to the company’s major shareholders. Given the mixed stock performance of the recent U.S. high-profile IPOs, the CEO worries about resistance from some of the shareholders, who are known to be conservative. It is well known that many IPOs in the U.S. were issued at prices substantially below the first-day closing market prices. In addition, it is well known that many IPO firms performed poorly a few years after they went public. However, the evidence on the existence of short-run IPO under-pricing phenomenon in the Australian stock market in the recent years is lacking. The CEO asks you to investigate the short-run and long-run performance of Australian IPOs and prepare a report on the following issues.


  1. Short-run IPO under-pricing is a well-known phenomenon in the US stock market. But is this phenomenon unique to US IPO firms only? In other words, does this phenomenon perhaps also exist in the Australian stock market? To answer this question, you need to investigate the short-run IPO performance in the Australia stock market. To measure the short-run IPO performance, you will have to calculate and analyse the initial return of IPOs that were listed on the Australian Securities Exchange (ASX) from 1 Mar 2016 to 31 Jul 2016.

The initial return (Ritter 1991, p. 7) equals: [(The unadjusted first trading day closing price – issue price) / issue price] * 100.

Download the list of IPO firms with their issue price and the first trading day closing price from Morningstar DatAnalysis Premium. Remove those IPOs without issue price or with issue price equals zero in the spreadsheet downloaded from DatAnalysis and IPO firms with ‘Suspended’ status. Remove ETF, hedge fund, REIT and firms with ‘Fund’ in their name. Also, make sure you download the unadjusted price for the first trading day closing price.

Critically analyse the results of your calculation using the entire sample and describe the insights that could be gained from the calculation. For instance, you should describe the results of the analysis using at least four types of simple descriptive statistics, such as mean, median, minimum, maximum, etc., or the frequency distribution.

Next, categorise your IPO firms into groups using industry sector (GICS sector), repeat the analysis for all industry sectors with at least four IPO firms, and describe what additional insights you could gain from the industry analysis.

2. Conduct a brief background review of the IPO firms in the information technology sector (e.g., firms’ business, markets/industries in which they are operating, risk factors, overall financial performance) at the time they were listed. The information on IPO firms can be obtained from their prospectus or Datanalysis Premium.
Examine the performance of the IPO firms in the information technology sector 3 years after they were listed on the ASX using the 3-year holding period return.
The formula for 3 year holding period return (Ritter, 1991, p.14) is

3-year holding return = ((P3-Pt)/Pt)x100

P3 = the adjusted closing price on the 3-year anniversary. If the first trading day is June 9, 2016, then the 3-year anniversary is June 9, 2019; if the 3-year anniversary is a non-trading day, then use the adjusted closing price of the trading day immediately prior to the 3-year anniversary.
Pt = the adjusted closing price on the first trading day.

Next, for each IPO firm in the information technology industry sector, calculate the corresponding 3-year holding period return for S&P/ASX 200 Information Technology Index by using the value of S&P/ASX 200 Information Technology Index on the first trading day of the firm you want to compare as Pt and value of S&P/ASX 200 Information Technology Index on the firm’s 3-year anniversary.

Based on the background information about the IPO firms and your analysis result in Questions (1) and (2), would you recommend your company CEO to propose the IPO plan to the major shareholders? Why or Why not? You are required to provide justification(s) to support your recommendation. You should use IPO firms’ background information; compare and contrast the 3-year return performance with the initial return calculated for this industry sector in Question (1); and compare and contrast the 3-year IPOs’ stock return performance with the 3-year holding period return of S&P/ASX 200 Information Technology Index. 

3. Select and discuss one theory/proposition that in your opinion provides the most plausible explanation for the occurrence of short-run IPO under-pricing in the US and/or Australian stock market. Perform some background research and use the findings to justify your selection.

Then pick one stock market from the three selected Asian economies (India, Indonesia, Hong Kong). Describe one study/article that empirically investigates the existence of short-term IPO under-pricing in the stock market you have chosen. To answer this question, you are expected to describe the study (including the sample of IPO firms examined, the degree of IPO under-pricing in the selected market and the factors explaining the degree of under-pricing in the selected stock market) and the empirical results on the factors explaining the short-term IPO under-pricing, and discuss the reason(s) proposed by the study to explain the existence of IPO under-pricing in relation to the theory you have identified and discussed for US and/or Australian stock market.