Performance of Initial Public Offerings in Pakistan

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International Review of Business Research Papers
Vol.3 No.2 June 2007, Pp. 420 - 441

Performance of Initial Public Offerings in Pakistan

Muhammad Khalid Sohail* and Mohamed Nasr***

We have studied the short-run and long-run performance of 50 IPOs listed on Karachi Stock Exchange (KSE) from 2000 to 2006. We found that the average under-pricing is 35.66%; and that the average market-adjusted cumulative abnormal return and buy-and-hold

abnormal return over the one year after listing are -19.67% & -38.10% by using market adjusted model and are -53.30% & -65.73% by using capital asset pricing model, respectively, which are negative and significant at the 5% and 1% levels respectively. The year-wise and sector-wise analysis of IPOs is also documented. We used also a cross-sectional analysis to explain the level of under-pricing of Pakistani’s IPO and found that the level of under-pricing is determined by ex-ante uncertainty, offer size, market capitalization and oversubscription variables while a little power of explaining the underpricing by percentage of shares offered, price earning ratio, secondary issue and market volatility variables.

Field of Research: Finance

1. Introduction
In the last decades thousands of firms around the world have preferred to go public. An initial public offering (IPO) occurs when a security is sold to the general public for the first time. An IPO can be of any debt or equity security. The issues analyzed are underpricing, short-run and long-run performance of IPOs in Pakistan. The purpose of this study is to extend the existing literature on the aftermarket performance of IPOs by examining the IPOs on the KSE. In particular, the issues of firms that took place between 2000 and 2006 are analyzed. The focus of the paper is to analyze how KSE behaves in the first trading day, short-run and long-run.

Rest of the paper is organized as follows: Section 2 refers to the existing literature relevant to the initial return, short-run and long-run performance of IPOs and determinants of under-pricing. Section 3 provides the methodology and framework. ________________________________

*Assistant Professor at UIMS, Uni. of Arid Agr., Rwp, Pakistan. E-mail: mkhalids33@hotmail.com ** Professor at COMSATS Institute of Information Technology, Islamabad, Pakistan. E-mail: nasr_m@mail.com

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Sohail & Nasr
Section 4 documents the results of IPO performance. Section 5 summarizes the findings and concludes the study.

2. Literature Review
The objective of any initial public offering (IPO) is to achieve the highest value for the issuer while ensuring an optimistic start to secondary trading and strong long-term (aftermarket) performance. The problem of under-pricing has been expansively researched and clearly indicates some loss of value to the issuer. However, underpricing can act as a positive signal and thereby corroborate secondary market trading and aftermarket performance. Rock (1986) provides a more general explanation of under-pricing in where under-pricing arises because of an informational asymmetry between a group of informed investors and a less informed issuing firm. The findings from Rocks model reveal that uninformed investors face a 'winner's curse' since they have a greater chance of being allocated shares in undersubscribed issues than in oversubscribed issues. One implication of Rocks model is that the greater the uncertainty surrounding the post-issue value of IPO shares, the greater the advantage to becoming an informed investor and hence the greater the level of under-pricing required to attract uninformed investors into the market.

Ritter (1991) examines 1,526 IPO stocks and finds a negative 15.08 percent average cumulative matching firm-adjusted return after 36 months. Comparing returns from firms of similar size and industry, the average IPO stocks cumulative abnormal returns are negative 26 percent. Ritter argues that the result is consistent with investors...
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