Do venture capitalists reduce underpricing and underperformance of IPOs?

Abstract

The purpose of this article is to assess the effect of venture capitalists at Initial Public Offerings (IPOs). In so doing, a sample of Venture Capital (VC)-backed firms was compared with a sample of non-VC-backed firms. Consistent with the prevailing belief that venture capitalists reduce uncertainty at the offering, VC-backed IPOs are found to be less underpriced than non-VC-backed IPOs. Moreover, in multivariate analyses, venture capitalists affect negatively the degree of underpricing. Unlike previous studies, we control for the new listing and rebalancing biases in the analysis of the long term performance by comparing the IPO returns to carefully constructed size matched portfolios. Based on the calendar time and the event time approaches, the results show that both samples are underperforming the carefully constructed reference portfolios in the long term. The analysis also shows that the VC-backed IPOs do not outperform the non-VC-backed IPOs. The overall difference between both sets of IPOs is also not statistically significant.

Keywords:

• venture capital
• IPOs
• event studies
• bootstrapped

JEL Classification:

• G14
• G30

Notes

¹ Includes only companies that were floated by placing and offers for sale at a fixed price.

² It includes all IPOs backed by VC regardless of the method of flotation.

³ In a placing, the shares are sold to specified persons or clients of the underwriter and the shares are not guaranteed as in a public offer, as it is not underwritten. If the issuing house fails to place an agreed minimum number of shares, then the offering is withdrawn. In an offer at fixed price, shares are offered to the public at a fixed price by an issuing house (usually an investment bank) on behalf of the company. The issuing house underwrites the entire issue by agreeing to purchase any shares unsold at the end of the offer period.

⁴ This is a seven digit number used as an identifier for a security listed on the LSE.

⁵ We used the Financial Times value weighted All Actuaries All Share Index (FTA) as benchmark to adjust for the initial return.

⁶ Given the fact that the initial returns are not normally distributed and tend to be skewed, the nonparametric Wilcoxon signed-rank test (Z-test), which tests the null hypothesis that the median abnormal return is equal to zero is also reported (Table 4).

⁷ Nonevent firms are those firms that have been listed in the market for at least 5 years and exclude all event firms (i.e. sampled IPOs).

⁸ The choice of n_t/4 is based on empirical analysis rather than theoretical basis. For more details see Lyon et al. (1999).

⁹ For a review on the main theories of underpricing, see, e.g. Lin and Hsu (2008) and Coakley et al. (2008, 2009).

¹⁰ We use the Financial Times Stock Exchange (FTSE) all share index.