Under-pricing and Long-term Performance of IPOs in

Under-pricingandLong-termPerformanceofIPOsinChinaKaLokChanDepartmentofFinanceHongKongUniversityofScienceandTechnologyClearWaterBay,Kowloon,HongKongTel:(852)-2358-7680;Fax:[phone]Email:[e-mail]ceHongKongUniversityofScienceandTechnologyClearWaterBay,Kowloon,HongKongTel:(852)-2358-7676;Fax:[phone]Email:[e-mail]inanceHongKongUniversityofScienceandTechnologyClearWaterBay,Kowloon,HongKongTel:(852)-2358-7665;Fax:[phone]Email:[e-mail]14,2001________________________*WeacknowledgetheEarmarkedResearchGrantoftheResearchGrantsCounciloftheHongKongSpecialAdministrationRegion,China(HKUST601/96H)andWeiLunSeniorFellowship(Chan)forfinancialsupport.Under-pricingandLong-termPerformanceofIPOsinChinaABSTRACTWestudytheunder-pricingandlong-termperformanceof570A-shareIPOsand39B-shareIPOsissuedinChina.Theaverageunder-pricingforA-shareIPOsis178%,whiletheaverageunder-pricingforB-shareIPOsisonly11.6%.SomeinstitutionalcharacteristicsinChinacouldexplaintheunder-pricingofA-shareIPOs.Theunder-pricingispositivelyrelatedtothenumberofdaysbetweentheofferingandthelistingandthenumberofstockinvestorsintheprovincefromwhichtheIPOcomes,butitisnegativelyrelatedtothenumberofsharesbeingissued.Incontrast,noneofthesecharacteristicsexplaintheunder-pricingofB-shareIPOs.Inthelong-run,thereisnostockpriceunderperformanceofeitherA-shareandB-shareIPOs.Furthermore,thestockpriceperformanceispartiallyrelatedtotheoperatingperformanceofthecompany.Under-pricingandLong-termPerformanceofIPOsinChina1.IntroductionThispaperinvestigatestheshort-termandlong-termperformanceofinitialpublicofferings(IPOs)ofcommonstocksinChina.ThepurposeofthisstudyisnotsimplytoaddanotherpieceofevidencetothevastliteratureonIPOunder-pricing.Rather,wewouldliketoinvestigatehowtheunder-pricingofIPOsisaffectedbysomeinstitutionalfactorsinthecentrallyplannedIPOmarketinChina.IPOunder-pricing–thephenomenonofalargepositivegaintoanewissue(relativetoitsofferingprice)immediatelyafterlisting–hasbeenfoundinmanymarkets.Loughran,Ritter,andRydqvist(1994)documentevidenceofIPOunder-pricingin25countries,withhigherIPOunder-pricingindevelopingthanindevelopedmarkets.1Comparedwiththeinternationalevidencefromothercountries,themagnitudeofunder-pricinginChinaisevenmorephenomenal.MokandHui(1998)findthattheunder-pricingofA-sharesinShanghaiwas289%.SuandFleisher(2000)showthattheunder-pricingcouldexceed948%ifIPOsfromearlieryearswereincludedinthesample.Manydifferenttheories,suchasinformationasymmetryandsignalingmodels,areofferedtoexplaintheIPOunder-pricingphenomenon[AllenandFaulhaber(1989),GrinblattandHwang(1989),Welch(1989),andChemmanur(1993)].2Itisunlikelythatthesemodelscanexplainthemagnitudeofunder-pricinginChina.AninterestingcharacteristicoftheChineseIPOmarketisthattheaggregateamountofnewsharesissuedeachyearisdeterminedbythecentralgovernment.Furthermore,thenewissuestypicallyrepresentasmallproportionoftheoutstandingshares,asthemajorityofothersharesisownedbythe1PleasevisitJayRitter’swebsiteat(2000)andShermanandTitman(2001)amongothers.1stateorotherlegalentitiesandisnotavailabletopublicinvestors.3Asaresult,theamountofnewsharesmadeavailableinthemarketisnotsufficienttosatisfythedemandofChineseinvestorswhohaveveryfewalternativeinvestmentchoices.AnotherrigidityintheIPOmarketisthattheofferingpriceismonitoredbytheChinaSecuritiesRegulatoryCommission(CSRC).Inordertomustertheenthusiasmoftheinvestorsandtoguaranteeafullsubscription,theofferingpriceissetfarbelowwhatthemarketiswillingtopay.Asaresult,thiscreatesmassivespeculationonIPOswhentheyarelisted.AfewpapershaveinvestigatedtheIPOunder-pricingphenomenoninChina.MokandHui(1998)examinethepricingofIPOsintheearlyyearsofChina’sstockmarket(before1993),whileSuandFleisher(1999)focusonthesignalingmodeltoexplaintheunder-pricingofIPOsinChina.Inthispaper,weexaminetheperformanceoftheIPOsusingamorerecentsub-period(A-shareIPOsfrom1993to1998andB-shareIPOs1995to1998).AnothercontributionisthatweexaminewhatinstitutionalfactorscanexplaindifferencesinIPOunder-pricingacrossdifferentstocks.Consistentwithpreviousstudies,wefindthattherearelargeabnormalreturns(178%)totheA-shareIPOsonthefirsttradingday.Weshowthatthecross-sectionalvariationsofabnormalreturnscanbeexplainedbysomeinstitutionalcharacteristics,includingthepercentageofequityretainedbythestateandlegalentities,thetimelagbetweenofferingandlisting,andthestageofdevelopmentoftheprovincefromwhichtheIPOfirmcomes,whichisproxiedbythenumberofstockinvestorsinthatprovince.AsforB-shares,sinceforeigninvestorshavealargeinvestmentopportunitysetoutsideChina,thereislessspeculationonB-shareChineseIPOs,andtheaveragereturnoftheIPOsonthefirstdayoftradingisonly11.6%.Furthermore,theunder-pricingoftheB-shareIPOscannotbeexplainedbyinstitutionalcharacteristics.Wealsoinvestig