To What Extent Do Seos Influence Ipo Under-Pricing in the Japanese Technological and Cyclical Consumer Goods and Services Markets

To what extent do SEOs influence IPO underpricing in the Japanese technological and cyclical consumer goods and services markets

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Bachelor thesis submitted to the Utrecht University school of Economics

                                By        

Arthur van der Does de Willebois

Student number:    4141989

Date:                        29-06-2017

Supervisor:                 J.W. de Graaf

Abstract

This study examines the effect of a seasoned equity offering (SEO) on the underpricing of the initial public offering (IPOs) in the Japanese technological and cyclical consumer goods and services market. The study tries to confirm the signalling hypothesis, first presented by Allen and Faulhaber (1989), which argues that there is a positive relation between the IPO and the subsequent seasoned equity offerings as firms are willing to underprice their offerings voluntarily, to obtain more favourable prices at the SEOs. However, this study did not find a statistical significant relationship between the underpricing of the IPO and the subsequent SEO in the Japanese technological and cyclical consumer goods and services market and therefore his study rejects the signalling hypothesis for these two markets. Evidence for this conclusion is shown in the regressions.

Table of contents

1. Introduction                                
2. Theoretical framework        

1. Winner’s curse        
2. Information extraction/ book-building theory
3. Signalling theory

1. Data set analysis
2. Empirical analysis

1. Methodology
2. Assumptions for OLS
3. Regression analysis
4. Alternative regressions
5. Hypotheses
6. Hypotheses testing
7. Analysis of the independent variables

1. Conclusion        
2. Discussion        
3. Appendix
4. Literature

1. Introduction

Much has been written about why underpricing in initial pubic returns (IPOs) happen, but no one has found a conclusive answer yet. Underpricing means that the offer price at the start of the day is lower than the price at the end of the day on the first day of trading. As this is a widely researched topic in the economic field, many theories attempt to explain this phenomenon. The most popular ones concern asymmetric information, which were the most important theories used for the study as described in this paper. Institutional and behavioural theories, however important, were not used here.

Asymmetric theories that are used in an attempt to explain underpricing all have in common that they are based on the assumption that one party has more information than the other party has. This information asymmetry leads to different opinions about how much a firm is worth, as all actors that have an interest in an IPO (underwriters, investors and issuing firms) are informed differently. Thus, these different actors may have an alternative view on the valuation of the  firm and therefore may come to the conclusion that the current value of the IPO is lower than the actual value of the firm.

Multiple explanations exist for these information asymmetries. The theories explained in this paper are the following:

1. information extraction/ book-building theory;
2. the ‘winner’s curse’ theory; and
3. the signalling theory.

The signalling theory will be used in this paper; the other theories are explained just to provide an insight in the current debate on this topic.

The goal of this study is to determine if seasoned equity offerings (SEOs), which occur when a company whose shares are already publicly traded on the stock exchange releases additional securities into the secondary market, influence the initial underpricing of the IPOs in specific markets. This is in line with the signalling theory. The aim of this study was to test the signalling theory  by uncovering the answer to the following question: To what extent do SEOs influence IPO underpricing in the Japanese technological and cyclical consumer goods and services markets? 

IPO underpricing may lead to a more favourable market reaction to an SEO, but this study adds to this field of research in that in previous studies, all of the existing IPOs and SEOs in a given timeframe were examined and compared, whereas this study focuses on only two markets and compares the companies that did both IPOs and SEOs with the companies that did only IPOs. This was done to check if the companies with subsequent SEOs really did underprice themselves more, and thus, to what extent the SEOs were relevant in the IPO underpricing. Therefore, the study tested the signalling hypothesis in a market-specific environment.

The study focuses on the Japanese technological and cyclical consumer goods and services markets. The cyclical consumer goods and services market consists of companies engaged in the production of homebuilding, automobiles, household goods, as well as casino, hotel, and retail operations and services. It is a risky market because when the economy picks up, this industry thrives, however, when the economy is in a recession this is one of the industries that is hit the hardest. In this market, customer satisfaction and customer service are the most important characteristics. The Japanese technological market has different market characteristics as it focuses mostly on research and development. By acquiring valuable patents technological firms try to stay ahead of the competition. It is interesting to compare these industries as the cyclical consumer goods and services market is a mature market while the technological market is still in its growth phase. The technological market also has higher information asymmetries and is thus more prone to bubbles than the cyclical consumer goods and services market.