An investigation into the effectiveness of Initial Public Offerings (IPOs) : a case study for Zimbabwe.

Abstract

This study sought to investigate the effectiveness of initial public offerings (IPOs) on the Zimbabwe Stock Exchange (ZSE), as an investment option in comparison to their seasoned matching firms and to establish why an investor would prefer buying into an IPO and not into already trading matching firms. The study also sought to determine the extent of IPO underpricing and to establish if there is a relationship between underpricing and the long-run performance of IPOs. This study further sought to establish the reasons behind the investors' over-optimism in IPOs despite their uncertainty as well as to establish the factors governing the success or failure of IPOs. A matching firm was judgementally selected for each of the IPOs listed on the ZSE during the period 1997 to 2002, for the purposes of comparing the short and long-run buy and hold returns. Returns for the 15 qualifying IPOs and 15 seasoned matching firms were analysed and the share price performance compared in event windows of 30 days, 1 year, 2 years, 3 years, 4 years and 5 years from the respective IPO dates. Questionnaires were also administered on a sample of 50 major stock market investors comprising stockbrokers, mutual funds, insurance companies, pension funds and merchant banks to test various theoretical propositions on these IPOs. Consistent with Majaya (2002) and Mutsigwa (2004), this study finds that there is substantial underpricing of IPOs in Zimbabwe with an average of 28% underpricing. This paper also finds that IPOs in Zimbabwe leave money on the table as a result of underpricing. The study finds that IPOs offer higher short-run returns than their seasoned matching firms and consistent with Brav and Gompers (1997), that there is no difference between the long-run performance of IPOs and that of their seasoned matching firms. This study finds no evidence of a relationship between underpricing and long-run IPO performance. The study also finds that the market condition, the timing of placement of an IPO and the firm size and age are some of the key factors determining the success or failure of an IPO and that oversubscription of IPOs on the ZSE is attributed to the size of the bourse which is too small, to cope with the demand for IPO shares. This study concludes that IPOs are risky investment and recommends that investors should carry out detailed analysis on the future prospects of an IPO before buying shares. Ascertaining the true value of a share may help the investor decide whether or not to invest in an IPO. The study recommends that the ZSE management should explore the possibility of setting up an exchange for small capitalisation stocks and that they should remove some of the restrictive listing requirements to enable more companies to list and access capital for expansion and other projects in a country already starved of foreign direct investment due to economic sanctions.