Surprising findings from new study on IPOs in Australia and US

A unique study of historic stock market data from Australia and the US has provided some interesting insights into the value of investing in initial public offerings (IPOs) in Australia and VC – Venture Capital opportunities in the USA.

The new investigation studied historic data to assess the returns that have been made or lost in investing in local and US-based IPOs.

Authored by Dr Kylie Gilbey et al. the paper, “ASX small firm/microcap listings: the IPO ‘Pop’ and two decades of subsequent returns” takes a close-up look at topics such as IPO discounts and average returns for all available ASX (de)/listed IPOs from 1999 to 2019.

Industry performance and delisting factors

Dr Gilbey, from University of Western Australia (UWA) Business School, told Small Caps that her paper also compared the returns on IPOs by IPO sizes, industry sector and state issued.

Notably, she found that small cap mining IPOs outperformed those undertaken by small tech firms, both of which finished ahead of energy.

“We first looked at the firms that were ‘still listed’ as at December 2019 – and then included the effects of firms that had ‘delisted’ during our two decade data period.”

Dr Gilbey said that overall, the total IPO portfolio (if you invested in every IPO over the past two decades and continuously adjusted your portfolio upon each listing and delisting) saw overall portfolio returns of 1.25% (for just still listed firms) increase to 12.95% if delisted firms returns were included.

“Interestingly small-cap firms significantly increased returns (on average) when their performance information upon delisting were included. While things like diversified financials and capital goods and health care (traditionally less emerging, generally more mature – and often east coast based) saw a reduction in returns upon the inclusion of delisted firms. That is, they were not necessarily delisting for negative reasons.”

The study also identified that the average 18.45% offering discount (from the closing price on the day of issue) was close to that observed in the US, as were the discount time series behaviour and distribution, despite major structural investor/IPO size differences between the US and Australia.

Furthermore, the average annualised return on a market-weighted portfolio of the ASX small/microcap IPOs, from close-of-listing-day price to delisting or 31 December 2019, is 18.62% compared to 2.28% for large-caps.”

Surprising outcomes revealed

Dr Gilbey revealed that they uncovered a number of surprises during her in-depth examination.

As the ASX is the only global exchange allowing small-caps to list on the same main board as large-caps, she said that it was interesting that no one had directly compared small cap returns to large cap returns globally – leaving a big gap in academic research.

The research found that large caps traditionally underperformed (similar to previous global research) – however, the profitable number of small cap returns were a surprise and contrary to much global academic research.

The study also revealed that there is a large group of small caps that underperform (predictably volatile groups) but the returns (on average) were on par with U.S. VC type returns.

Location Influence on Australian IPOs

Dr Gilbey also found that as far as Australian IPOs go, location matters.

“Location is a big topic in academic research finding better IPO outcomes the closer to a major financial centre – but WA is a long way from NSW and VIC. So, we looked at legal fees and noted it is much cheaper to list in WA – so an interesting finding.”

At the same time WA was found to have a large number of delistings (usually bad for ASX reputationally if lots of delistings). However, the investment dollar size was comparatively small, as they were all small caps.

The eastern states had fewer delistings but the dollar amounts were three times as much – so this affects ASX reputationally more.

Dr Gilbey also revealed that small/microcap listings filed in Western Australia had the highest post-listing return differentials.

Delisting rates and reasons

The investigation also found that of the 2,018 IPOs during the study period, 62% delisted, but only 17% of these delisted companies cited financial failure as their reason for delisting.

Dr Gilbey also noted that in 2015, a mining downturn saw no mining IPOs in WA, with that speculative infrastructure pivoting to tech stocks.

The study found that WA’s small cap growth grew out of a necessity to fund early stage exploratory/junior mining – in the absence of a mature VC market – however that same early-stage financial and technical infrastructure associated small cap/speculative funding that evolved, saw WA’s investors and funders able to pivot to other similar emerging industry sectors, such as the early-stage ‘Tech’ industry sector.

Lack of information available

During their journey Dr Gilbey found that there was little in the way of published studies into the success of ASX IPOs in comparison to what has come out of the United States.

“The majority of IPO academic research comes out of the US. They hold 40% of the world’s global market cap, and the data is easy to get, so most research is based on the US.”

She found that the ASX is unique on a major global exchange basis because:

• It allows small caps to list on a main board exchange (unique – doesn’t relegate small-caps to a second board exchange – which traditionally underperform for a variety of reasons, analyst coverage, liquidity, governance not up to main board exchange requirements – so lesser quality perceptions, etc.)
• They have the same listing requirements as the large caps (unique) – so ASX listing enforces governance at earlier stages than possibly elsewhere (or what might be achieved with a VC route).

Trends in public listings

Dr Gilbey found that Australia has been bucking global trends when it comes to public listings.

The study revealed that fewer (>50% fewer) public corporations are listed in the US today compared to 20 years ago, with the remaining listings tending to be on average larger, older and less profitable entities.

However, in comparison, the number of ASX listings have grown, largely due to a boost from small/microcaps, which have constituted approximately 78% of all new ASX listings over the last two decades.

Comparison between Australian IPO, US and venture capital

In early June, Dr Gilbey published another paper that determined that if the US and Australia both kicked off at a level of ‘1’ in 2006, by 2019, US venture capital numbers have increased 4.5 times while Australia has barely increased 1x times.

According to Dr Gilbey, the next research objective is to more closely examine why firms delist.

Dr Gilbey was assisted in her studies by Emeritus Professor Terry Marsh from the Haas School of Business, U.C. Berkeley, CEO Quantal Inc, and Sharon Purchase from the UWA Business School.