investment bankers, their analysts and orphaned ipos daniel bradley, clemson university konan chan,...

Investment bankers, their analysts and orphaned IPOs

Daniel Bradley, Clemson University

Konan Chan, National Taiwan University

Joonghyuk Kim, Korea University

Ajai Singh, Case Western Reserve University

2004 NTU International Conference on Finance

December 2004 NTU Conference on Finance 2

Motivation

• Research coverage becomes an important issue recently

– Loughran and Ritter (2004): research coverage becomes important over time, leading to significant underpricing

– Krigman, Shaw, and Womack (2001): SEOs switch underwriters is to get more prestigious research coverage

– SEC fine Merrill Lynch, among others, for 1.4 billion

• Why research coverage is important?

– Alleviate the significant information asymmetry in IPOs

– Increase company recognition, attract a larger customer base, and stimulate investment in the company

– Potential conflict of interests


Motivation

• If important,

– Does research coverage create value?

– Where the value is from?


Previous Research

• Rajan and Servaes (1997) / Aggrawal, Krigman and Womack (2002) – underpricing attracts analyst following

– Overoptimism (or momentum) from analysts result in future poor performance

• Cliff and Denis (2004) / Loughran and Ritter (2004)– Given gross spreads are fixed at 7%, IPOs don’t explicitly pay

for analyst coverage

– Underpricing is used to purchase the research coverage


Previous Research

• Michaely and Womack (1999) – Conflict of interest hypothesis: lead underwriters are issuing

biased recommendations for their clients

– lead underwriter recommendations are more optimistic compared to non-lead recommendations for the 1990-91 sample

– the market discounts lead underwriter recommendations at the time of their release

– poorer long-run performance for firms covered by lead than non-lead


Previous Research

• Bradley, Jordan, and Ritter (2003)

– Confirmation hypothesis: higher firm quality if multiple analysts initiate coverage

– 76% of IPOs in 1996-2000 receive research coverage shortly after the end of quiet period, almost with a favorable report

– The market responds positively to these recommendations

– Market reaction is more favorable if 3 or more analysts initiate coverage

– Market reaction is similar between lead and non-lead recommendation


Motivation and Objective

• Mixed results regarding the value of research coverage – Conflict of interest by Michaely and Womack (1999)

– Confirmation in Bradley, Jordan, and Ritter (2003)

• We examine long-run performance of IPOs without research coverage at the end of quiet period and IPOs with research coverage – Orphans are IPOs which do not receive analyst coverage from

their managing underwriters following the IPO quiet period expiration (25 days after offerings)

– SEC prohibit firms and their underwriters from publishing opinions concerning valuation and earnings


Why Long-Run Returns?

• A large body of finance literature suggests that our market is slow to digest information– IPOs, SEOs, repurchases, mergers

– Value strategy, momentum

• Analysts are generally looking at intermediate or long-term prospective of firms

• Compare with Michaely and Womack (1999)– They use 1990-91 sample which is relatively small compared to

large population of IPOs

– IPO pattern may change over time


Why End of Quiet Period?

• The first opportunity for affiliated analysts to issue opinions, thus the recommendations are most informative

• Initiations create more market impact than re-iterations

• Analysts’ recommendation are random, but end of quiet period is exogenous


Main Results

• In 1996-1998, orphans significantly underperform non-orphan– The outperformance of non-orphans is from multiple analyst

coverage.

– IPO firms outperform when the lead underwriter and another non-lead underwriter initiate coverage

– This result is consistent with the confirmation hypothesis, but largely inconsistent with the conflict of interest hypothesis

• In the bubble period (1999-2000), both orphans and non-orphaned IPOs significantly underperform


Data and Methodology

• 1,731 IPOs from SDC in 1996-2000

• Coverage data from Bradley, Jordan, and Ritter (2003)

• Buy-and-hold abnormal returns (BHARs) for 2-years

• Size- and book-to-market matched control firm as benchmark

• Skewness-adjusted t-statistics for testing

, and

)ˆ6

1ˆ

27

1ˆ

3

1( 322

nSSSnt

)(AR

ARS

3

1

3

)()2)(1(ˆ

AR

ARAR

nn

n

n

ii


Summary StatisticsNon-orphans Orphans Difference

Variable N Mean N Mean p-value

Tech 1,206 57.7 525 35.6 .0001

Offer size ($mil) 1,206 80.9 525 39.4 .0001

Managers 1,206 3.1 525 2.1 .0001

Venture (%) 1,206 59.2 525 26.7 .0001

CM-rank 1,206 8.0 525 5.8 .0001

Underpricing (%) 1,181 45.2 521 17.3 .0001

Year 1996 1997 1998 1999 2000

Number of IPOs

Non-orphan 277 186 154 326 263

Orphan 260 142 52 49 22

% of Orphan 48.4 43.3 25.2 13.1 7.7


Long-Run Returns (%)

N Raw t-stat BHAR t-stat FF t-stat

1996-2000

Non-orphan 1206 -2.18 -0.29 -4.60 -0.59 -0.70 -1.14

Orphan 525 0.52 0.14 -9.43 -1.03 -0.70 -0.87

Difference -2.70 -0.26 4.83 0.38 0.01 0.01

1996-1998

Non-orphan 617 50.62 6.50 39.01 3.65 -0.44 -0.80

Orphan 454 3.79 0.62 -5.09 -0.51 -1.27 -2.16

Difference 46.83 3.14 44.10 2.62 0.83 2.02

1999-2000

Non-orphan 589 -57.49 -7.00 -50.28 -9.19 -0.30 -0.24

Orphan 71 -20.36 -0.97 -37.17 -1.69 -0.60 -0.35

Difference -37.13 -3.61 -13.11 -0.60 0.30 0.21


Long-Run Returns (%) by UnderpricingCoverage t-stat

Underpricing Yes No p-value

1996-1998

Mean 53.4 -8.3 2.22

High Median 0.9 -15.2 0.027

Mean 23.2 -2.4 1.31

Low Median 12.4 -7.5 0.032

1999-2000

Mean -57.6 -99.7 2.11

High Median -41.2 -63.2 0.189

Mean -43.1 -10.9 -0.86

Low Median -25.2 -26.7 0.682


Long-Run Returns (%) by ReputationCoverage t-stat

Reputation Yes No p-value

1996-1998

Mean 61.7 19.3 0.84

High Median 5.0 -4.7 0.632

Mean 28.6 -10.6 2.50

Low Median 7.2 -14.5 0.003

1999-2000

Mean -36.0 -61.5 1.38

High Median -29.0 -50.5 0.430

Mean -72.2 -26.3 -1.23

Low Median -44.6 -32.2 0.218


Long-Run Returns (%) by Venture CapitalCoverage t-stat

Venture Capital Yes No p-value

1996-1998

Mean 69.4 -10.4 2.07

Yes Median 7.0 -16.7 0.009

Mean 12.1 -3.3 0.95

No Median 4.6 -8.4 0.118

1999-2000

Mean -60.6 -79.9 0.49

Yes Median -38.6 -55.6 0.159

Mean -23.7 -15.3 -0.21

No Median -19.9 -23.8 0.972


Long-Run Returns (%) by High TechCoverage t-stat

High Tech Yes No p-value

1996-1998

Mean 64.0 15.9 1.50

Yes Median 8.3 -8.8 0.097

Mean 15.2 -15.8 1.70

No Median 2.9 -10.7 0.029

1999-2000

Mean -60.3 -41.8 -0.53

Yes Median -38.3 -48.0 0.404

Mean -29.9 -33.0 0.33

No Median -24.9 -19.1 0.737


Long-Run Returns (%) by # of Analysts# analysts N Mean t-stat Median p-value

1996 to 1998

0 454 -5.09 -0.56 -10.13 0.017

1 307 9.87 0.96 0.68 0.680

2 or more 310 67.87 2.93 10.58 0.034

1999 to 2000

0 71 -37.17 -1.82 -32.21 0.001

1 71 -39.19 -2.57 -22.97 0.004

2 or more 518 -51.80 -6.61 -36.26 0.000


Long-Run Returns (%) by Affiliation and # of Analysts

Affiliation # analysts N Mean t-stat Median p-value

1996-1998

Lead only 1 194 5.52 0.38 -11.34 0.609

Co-lead only 1 113 17.34 1.42 4.80 0.166

Co-lead only 2 or more 18 6.08 0.14 -15.58 0.317

Both 2 or more 292 71.68 2.94 12.26 0.018

1999-2000

Lead only 1 51 -26.63 -1.35 -13.06 0.156

Co-lead only 1 20 -71.24 -3.86 -61.26 0.003

Co-lead only 2 or more 32 -49.76 -3.41 -31.74 0.004

Both 2 or more 486 -51.94 -6.26 -36.62 0.000

1996-1998 Full sample Lead No lead

Intercept -33.58 -5.09 -31.50 -31.05 -38.32 -6.58

(0.009) (0.578) (0.008) (0.008) (0.003) (0.483)

Lead 35.93 11.79

(0.022) (0.561)

VC 21.71 18.52 18.22 32.92 -35.64

(0.291) (0.355) (0.361) (0.145) (0.053)

HighRep 32.57 27.76 26.95 38.90 14.11

(0.155) (0.222) (0.224) (0.144) (0.362)

HighUnder 12.46 11.23 10.76 12.42 -7.19

(0.442) (0.494) (0.508) (0.497) (0.650)

Tech 34.79 33.93 33.89 35.56 33.61

(0.093) (0.102) (0.102) (0.129) (0.129)

One 14.97 -2.33 5.26 1.66 24.29

(0.278) (0.900) (0.721) (0.926) (0.136)

Twomore 72.96 44.84 56.21 54.17 7.58

(0.003) (0.070) (0.007) (0.011) (0.871)


Robustness

• Winsorized returns– Reduce the concern of outliers/skewness of long-run returns

• Industry matching– Use industry, size, BM matched control firm

– Control potential bias of industry clustering

– Reduce the dependence problem in long-run buy-and-holdreturns

• Rating strength– Focus on only ‘strong buy’ and ‘buy’


Conclusion

• During 1996-1998, non-orphans outperform orphans– The outperformance is mainly due to the multiple analysts

– Support confirmation hypothesis, but not support the conflict of interest hypothesis

• In the 1999-2000 bubble, there is no difference between the long-run performance of orphans and non-orphans– Over 90% of IPOs get analyst coverage in 1999-2000

– Given almost everyone received research coverage, any selectivity or informational value that coverage has, was not noticeable during the bubble period

investment bankers, their analysts and orphaned ipos daniel bradley, clemson university konan chan,...

Documents