Underwriter reputation and IPO valuation in an emerging market: evidence from Malaysia

Abstract

PurposeThe purpose of this study is to examine the influence of underwriter reputation on the valuation of Malaysian initial public offerings (IPOs).Design/methodology/approachThis study employed cross-sectional multiple regression models to analyse the relationship between underwriter reputation and IPO valuation that included 466 IPOs listed on Bursa Malaysia from 2000 to 2017.FindingsThe results revealed that underwriter reputation had a significant negative association with IPO valuation. Firms that engaged the services of reputable underwriters had their IPO offer prices set lower than the intrinsic values during the listing. After incorporating firms' size, this study found a positive relationship between underwriter reputation and IPO valuation. Big firms (high quality) hired reputable underwriters for certification purposes as issuers were aware that the cost of hiring a reputable underwriter would be justified by increased transparency after listing. Therefore, firms that engaged reputable underwriters had approximately fair values since issuers assumed that the price would be close to the intrinsic value following enhanced transparency post-listing.Research limitations/implicationsFuture studies should focus on other non-financial factors, such as auditor reputation.Originality/valueThe present study provides new insights into the certification role of underwriters in valuing IPOs in the Malaysian market.

Auditors, Underwriters, and Firm Owners’ Interaction in an IPO Environment: The Case of OECD Nations

“…Initial studies by Beatty & Ritter [26], Johnson & Miller [27], Carter & Manaster [28], Carter, Dark, & Singh, [29], Aggarwal [30], Kirkulak-Uludag and Davis [31] have shown that prestigious underwriters reflect firm competence and thus contribute to low first-day returns in the secondary markets. Recent studies by Widarjo et al [32], Angelia and Basana [33], Albada, Low and Yong [18], Rumokoy et al [17], and Ong, Mohd-Rashid, and Taufil-Mohd [19], using Malaysian and Indonesian data respectively, further supports the inverse relationship between underwriters reputation and first-day initial returns. Contrary to the above, studies by Beatty and Welch [34]; Cooney et al [35]; Bates and Dunbar, [36]; Loughran & Ritter, [37] document a positive relationship, whereby while respectable underwriters still reflect firm efficiency, investors see it as an incentive to raise their demand for IPOs in the secondary market, prompting prices to surge upwards and thus a higher returns on these IPOs.…”

“…In a mature capital market with robust legal structures and investor protections, high ownership further solidifies the collaborations as it reduces insider information, thereby boosting investor confidence in firm credibility. The relationship eventually induces a rise in demand for IPOs in the secondary market, thus leading to favorable first-day returns as reported by Allen and Faulhaber [6], Grinblatt and Hwang [40], Welch [7], Datar, Felthan and Hughes [13], Titman and Trueman [12], Loughran & Ritter [37], Rumokoy et al [17], Albada, Low and Yong [18] and Ong, Mohd-Rashid and Taufil-Mohd [19]. As noted earlier, the civil law nation has a comparatively weaker legal system, investor protection, and enforcement of rules and regulations.…”

“…Similar to the reputation of auditors, prestigious investment banks are believed to be prolific underwriters, and they have extensive experience in having a business listed in stock exchanges. Due to their active participation in providing essential services in an IPO course such as legal issues, compliance, and validation, book-building, and valuing of an IPO [17][18][19], they have an impact on the IPOs' first-day returns. The credibility of these underwriters appointed by a firm is a gauge of the firm's prospects and value to prospective investors.…”

“…If such a coalition does not exist, the desired effect may not be achieved. As Beatty and Welch [ [18], and Ong, Mohd-Rashid, and Taufil-Mohd [19], have reported, investors view the above as a prospect to raise their demand for these secondary-market IPOs, pushing the value of the shares up and eventually leading to higher first-day returns.…”

How discounts impact IPOs valuation performance and underpricing? A confrontation between warranted and unwarranted discounts

“…Studies document a negative correlation between underpricing and reputation, whether of underwriters or auditors (Albada et al, 2019a(Albada et al, , 2019bD. Sundarasen, 2019;Kaur and Singh, 2019;Kenourgios et al, 2007;Ong et al, 2020;Pratoomsuwan, 2012). Issuers seem to accept the costs of hiring reputable underwriters or auditors.…”