Introduction to Corporate Finance

12: Raising Long-Term Financing

These findings are controversial, because they challenge the notions that investors are rational and

financial markets efficient. More recent research casts doubt on this long-run underperformance for IPO

shares. Studies conclude that most IPOs do not yield significant long-run underperformance – provided

that IPO returns are compared to an appropriate benchmark. In particular, a compelling case is made

that much of the observed underperformance can be explained by leverage effects and risk reductions

resulting from the IPO itself. Raising new equity capital via an IPO reduces the firm’s leverage and its

financial risk, so investors will accept a lower required return subsequent to the offering. On balance, we

conclude that IPOs tend to earn normal long-term returns. Given these conflicting findings, we cannot

yet draw firm conclusions about the long run return on IPO shares.

AVERAGE FIRST-DAY RETURNS ON IPOS FOR 43 COUNTRIES

Significantly positive initial returns on IPOs are observed

in many countries. As this figure shows, IPO underpricing

is observed in at least 43 countries; all show significant

underpricing, and 24 of these countries have mean initial

returns that are greater than the US average. The average level

of underpricing varies greatly across countries – from about 5%

in Russia and Argentina to about 100% in India to an amazing

170% in China.

finance in practice

0

20

40

60

80

100

Average first-day return (%)

Country

120

140

160

180

Russia

Argentina

AustriaCanadaDenmark

Chile

Norway

Netherlands

FranceTurkeySpain

PortugalNigeriaBelgium

Israel

Mexico

Hong Kong

United Kingdom

United States

Finland

Italy

Australia

New Zealand

IndonesiaPhilippines

Iran

PolandCyprusIrelandGreece

GermanySwedenSingapore

South Africa

ThailandTaiwan

JapanBrazil

Sri Lanka

Korea

Malaysia

India

China (A share)