Are there Simple Indicators as to Which IPOs Outperform the Market over the Long Term?

Aims: Most companies making an Initial Public Offering (IPO) underperform the market over the long term. Is this because investors are so enamored with IPOs that hope triumphs analysis? If investors are willing to invest in companies likely to underperform the market, someone will take them public. This raises the question as to whether there are simple indicators that can be used to identify IPOs likely to under or over perform the market over the long term.

Place and Duration of Study: This study is based on publically available information on Compustat, Hoovers On-line IPO Central, and the US Securities and Exchange Commission website www.sec.gov.

Methodology: This study analyzes the long term performance of 820 companies that went public in the United States from 1998 to 2007 and tracks their performance for an average of three and a half years. About 48.41% beat market returns defined as the Standard & Poor’s 500. Companies with the best and worst quintile of Underwriter Reputation, Assets, Revenue, EBITDA and EBITDA to Assets where compared, as were industries.

Results: The following factors were found to be statistically significant in identifying IPOs likely to outperform the market: (i) Underwriter Reputation (P <.01), (ii) Industry statistical significance varies among the 17 industries in the study, (iii) Assets (P <.01), (iv) Revenue (P<.01), (v) EBITDA (P <.01), and (vi) the ratio of EBITDA to Assets (P <.01). Simulation analysis using the Wilcoxon Sign Rank test confirms that by avoiding companies likely to underperform, a superior portfolio of IPO companies can be constructed (P = .05). Conclusion: This study found there are simple indicators for identifying IPO companies likely to outperform the market. No prediction is made as to specific companies, but results can be used to construct superior portfolios.