IPO Failure Risk

Abstract

We explore the factors associated with historical IPO failures by developing an IPO failure prediction model that includes accounting information as well as proxies for the role of information intermediaries and other IPO deal-related characteristics. We document statistically significant differences in failure models applicable to nontech versus high tech IPOs, and these structural differences are largely driven by accounting-based proxies for firms' investments in intangible assets, operating performance, and financial leverage. We also develop parsimonious, predominantly accounting-based, strictly outof-sample (i.e., no hindsight) IPO failure forecasting models for each of the two sectors. We find that our forecasts are negatively associated with one-year post-IPO abnormal returns. A pseudo-hedge strategy of going short (long) in high (low) failure risk portfolios yields returns of economically significant magnitudes over the one-year horizon, and is robust to alternative returns methodologies. Further results suggest that IPO long-run returns anomalies may persist, but they take different forms for high-tech and nontech IPOs. * INSEAD; †Tilburg University. We thank

Earnings management and performance of French IPO companies

“…According to previous studies, we expect that worst performing and failed IPOs in the long term are those who are young (Ritter, 1991;Demers and Joos, 2007;Li et al, 2006), small (Keloharju, 1993;Goergen et al, 2007), highly leveraged (Eckbo and Norli, 2005;Demers and Joos, 2007;Li et al, 2006) and less profitable (Fama and French, 2004;Li et al, 2006) at the IPO time.…”

Are Voluntary Internal Controls-Related Audit Report Disclosures Informative in IPOs?

“…One, litigation risk is a relevant consideration for IPO pricing (Tinic 1988;Hughes and Thakor 1992), so I include LITRISK. Two, significantly different IPO failure models apply to technology companies than to non-technology companies (Demers and Joos 2007) and there are noticeable differences between the valuation models for…”

“…IPO issuers' information advantage over investors (Ritter and Welch 2002;Demers and Joos 2007) and absence of a reference market price prior to the IPO (Friedlan 1994) make it difficult for investors to evaluate an IPO (Ritter and Welch 2002;Demers and Joos 2007). Information asymmetry between the company and investors can lead prospective investors to discount their valuation (Myers and Majluf 1984).…”

The Canadian Public Venture Capital Market

“…In 1998, the TSX introduced the "technology company standards," which required that companies have a minimum of CAN$12 million in treasury, adequate funds to cover all planned research and development (R&D) expenditures, general and administrative expenses and capital expenditures for a period of at least two years and a minimum two-year operating history that included R&D activities. Accordingly, these listing standards allow developing companies to access the market easily while reporting negative 12 According to the Listing Standard and Fees document, available on the NASDAQ site (last visited January 15, 2009, at http://www.nasdaq.com/about/nasdaq_listing_req_fees.pdf 13 Demers and Joos (2007) report a mean and median issue price in the vicinity of US$15 to US$16. The corresponding value is US$2 (CAN$3).…”

“…By comparison, similar limits for the NASDAQ are $5 million for market capitalization and $1 for the stock price, under standard 1. 12 To be able to estimate a failure rate, we applied a rule which mimics the NASDAQ delisting practice as well as the decision criteria used by Demers and Joos (2007), among others. We consider as "dead" any stock that maintains a price lower than CAN$0.10 for seven consecutive months.…”