Risks and Returns of Initial Public Offerings (IPOs)
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ASSESSMENT OF RISKS AND RETURNS OF INITIAL PUBLIC OFFERINGS (IPOs) ISSUED IN HONG KONG VERSUS CHINA
This dissertation was designed to focus on an assessment of the risks and returns of the initial public offerings (IPOs) issued in Hong Kong versus China. In recent years,
China's stock market has experienced phenomenal growth with a record of US$62 billion raised in 140 IPOs in 2006, more than that raised in the United States of US$48 billion.1 The growth of China's economy continues to fuel the expectations that this trend of strong IPO growth would continue and that Chinese firms would increasingly pursue listings in the Chinese and Hong Kong stock exchanges to tap international investors for their fund raising requirements. A recent example of a Chinese firm doing an IPO was China Railways Construction which issued US$3.1 billion in an IPO in February 2008.2
The key rationale in pursuing this research was that it would give an understanding of the key differences between listings in the Chinese and Hong Kong stock exchanges, particularly in relation to risks and performance (i.e. returns). Based on the statistical analysis of the existing information, there was no marked difference seen in
the performance of the IPOs of the mainland Chinese firms in the Hong Kong Exchange versus the performance of the overall exchange (represented by the Hang Seng index). The data availability limited the statistical analysis primarily to the IPO information from the Hong Kong Exchange.
The assessment of the risks and performance of the IPOs in the Chinese and Hong Kong stock exchanges led to the following conclusions: (1) Hong Kong is favoured
overseas exchange for dual listing of mainland Chinese firms, (2) there is strong uncertainty in listing in the Shanghai Stock Exchange, and (3) interest in China is strong and investors can be tapped through an overseas listing.
For the mainland Chinese firms that will be issuing their IPOs, the following are the recommendations resulting from the dissertation: pursue a dual listing, list in the
Hong Kong Exchange for the overseas exchange listing, and manage the timing of the IPO. Finally, for further research work, the following are the recommended steps that can be taken to develop the issues in greater detail and address other related concerns: pursue comparison of long-term performance of IPOs, compare the options
available for mainland Chinese firms in terms of their IPOs, and assess IPO performance across other factors (such as size of firms, sector of firms, and extent of local versus global breakdown of the business).
RESEARCH AIMS AND OBJECTIVES
The dissertation had two key research questions which were addressed during the research. These research questions guided the research design and methodology of the dissertation. The two research questions were:
1. How have the firms listing in Chinese and Hong Kong stock exchanges performed since their IPOs, and what risks did these firms face in their listings?
2. How have the IPOs in Chinese and Hong Kong stock exchanges performed compared to each other and also in relation to regional and global competitors?
The rest of this section discusses these research questions in greater detail.
2.1 PERFORMANCE SINCE IPO OF CHINESE AND HONG KONG LISTINGS AND RISKS FACED BY FIRMS
The dissertation sought to determine the performance since IPO of Chinese and Hong Kong stock exchange listings, and the risks faced by the firms listing in these exchanges. The research aims and objectives for this part of the dissertation focused on the following:
· Assess the performance of the listings in the Chinese and Hong Kong stock exchanges. This assessment focused on how listings have performed in the stock exchanges of Hong Kong and China. This gave an indication of the performance of the stocks which were listed through an IPO, and provided an opportunity to analyse the differences, in terms of performance, in listing between the Chinese and Hong Kong stock exchanges.
· Determine the risks faced by firms pursuing an IPO through the Chinese and Hong Kong stock exchanges. Another objective pursued in this dissertation was determining and understanding the risks that IPOs of firms listing in China and Hong Kong faced. As options have expanded in terms of the location where firms can list
in, firms consider various factors in deciding on the best stock exchange for the listing of their IPO to be done. The different options also need to be assessed in terms of the risks that the firms are exposed to by listing in these exchanges.
Understand other factors that have affected performance and risks of firms. The recent developments in the financial markets brought on as an impact by the US subprime
markets have also affected the performance of recent listings not only in the Chinese and Hong Kong stock exchanges but also in other stock exchanges as well.
These factors and the impact these factors have had on the performance of recent IPOs in the Chinese and Hong Kong stock exchanges were also identified and presented in this dissertation.
· Analyse issues using quantitative and qualitative analysis.
In pursuing the assessment of the points above, this dissertation pursued both a quantitative and a qualitative approach to ensure that the research methods provided a complementary approach. This was also designed to ensure that the inputs to the analysis had a robust basis with the assessment of performance and risks based off actual quantitative results supported by input from industry practitioners and their observations.
2.2 ASSESSMENT OF IPO PERFORMANCE BETWEEN CHINA AND HONG KONG STOCK EXCHANGES AND VERSUS OTHER STOCK EXCHANGES
The assessment of the performance of the IPOs was reviewed by comparing the performance of the IPOs of the Chinese and Hong Kong stock exchanges. In addition,
these were also compared versus the performance of IPOs in selected regional and also global stock exchanges to give an indication of the relative performance of the IPOs in these different exchanges.
The research aims and objectives of this part of the dissertation were the following:
· Assess objectively the performance of the IPOs in the Chinese and Hong Kong stock exchanges versus selected regional and global stock exchanges.
This assessment was conducted using the performance data of selected firms in these exchanges to provide an indication of their relative performances. Thus, the dissertation sought to expand on the initial issue raised on the performance and risks of IPOs between Chinese and Hong Kong stock exchanges. This provided an added viewpoint into how different the performances of the IPOs have been in these exchanges.
· Understand factors and issues affecting the relative performances of the IPOs.
With the differences in the performances of IPOs identified in the previous point, the dissertation sought to analyse the factors affecting these differences. This assessment
was important as it provided the opportunity to pursue further research of the issues, resulting in increased understanding of factors affecting the performance of the IPOs
in these stock exchanges.
These two points above were the key research objectives in assessing the performance of the IPOs of the Chinese and Hong Kong stock exchanges versus the IPOs of other selected regional and global stock exchanges.
There were several key reasons identified as to the rationale behind pursuing this dissertation. This section discusses the research rationale first from an academic research
point of view and then, second, from a personal point of view of the researcher in terms of the benefits achieved in completing the dissertation.
From an academic research point of view, the following were the key reasons identified:
· Drive decision for location of IPO for firms listing in stock exchanges:
The results of the research could be utilised in forming a decision as to the location of a firm's IPO. With greater transparency of the performance and risks in listing in China versus listing in Hong Kong, firms now have further factors to include in building a decision for the location of a firm's IPO. This point is particularly relevant
for mainland China firms which are looking to tap international overseas investors for their IPO and are considering various options for their action.
· Provide alternative options and thought processes for firms considering their IPOs:
The results of the dissertation also provide firms pursuing an IPO in China or Hong Kong further basis for possibly considering other options outside of China or
Hong Kong, given the points raised in the findings and analysis section. For example, firms now are not limited only to the thinking pursuing the funding of
Chinese firms is best achieved by tapping both the Chinese and Hong Kong stock exchanges for a dual listing as this gives Chinese firms best access to the funding capability of international investors.
· Push stock exchanges to manage more effectively the marketing of their products and services:
The dissertation also benefits the Chinese and Hong Kong stock exchanges as this dissertation provides the stock exchanges the basis and the opportunity to revisit their product and service offerings, and ensure that their marketing properly addresses the requirements of Chinese firms in capital markets' financing. The review of the Chinese and Hong Kong stock exchanges versus its regional and global peers also provide the stock exchanges an objective assessment of performance levels relative to each other.
On a personal level, the dissertation also benefited the research considerably, and also lends further basis to providing a strong rationale for completing the dissertation. The key personal reasons for the researcher in pursuing this dissertation, aside from completing school requirements, include the following:
· Improve knowledge and expertise of researcher.
The dissertation was very specific in the research questions addressed and the research issues to be assessed. Thus, the researcher's knowledge in these specific academic and business areas were considerably enhanced with the conduct and completion of the dissertation, including the pur suit of in-depth research and the structuring of questions and issues for the dissertation. The understanding of the issues in this dissertation will be very helpful to the researcher as other challenges are faced in an academic and business setting.
· Build project management skills.
The dissertation provided the researcher the opportunity to build on project management skills as well given the extent of the period and the different aspects required in completing the dissertation, or project.
This skill will be very beneficial to the researcher particularly once this is utilised in the business world where the ability to manage projects, as well as multi-task, is appreciated.
The two points above provided further rationale to the pursuit of the completion of this dissertation, and gave the researcher strong reasons for undertaking the dissertation in addition to the given benefit of completing a requirement for school.
The issue of performance and risks in issuing IPOs in exchanges has been analysed in various research works and there is a relatively comprehensive research work
that can form the basis of further research work. For example, assessments of the performance of IPOs of stock exchanges have been done in a number of exchanges
already. One research in particular focused on an assessment of the long-term performance of the IPOs of Europe's new stock markets.3 The research works focusing
on the issue of IPO performance are expected to continue to be of importance to the academic finance community given the debate which goes on relating to the near-term abnormal returns of IPOs and their long-term underperformance.
The focus of this dissertation is a comparison and assessment of the performance and risks of IPOs issued in Chinese and Hong Kong stock exchanges. This research
differs in other bodies of academic work in that this specific research issue has not been addressed directly. Certainly, the existing literature and academic research provides a preliminary path and approach in resolving the key research questions defined at the beginning of this dissertation paper.
In reviewing the related literature on the assessment of risks and performance of IPOs in Chinese and Hong Kong stock exchanges, a number of consistent themes were
noted as predominant in the research works. In order to assess the themes which may have contrasting supporting research, these themes are presented below and form the structure for the rest of this section reviewing the related literature:
· Methods for assessment of IPO performance
· Performance of IPOs
· Risk assessment of IPOs
· Period of assessment
· Chinese and Hong Kong IPOs
The points above are the key factors discussed in this section.
4.1 METHODS FOR ASSESSMENT OF IPO PERFORMANCE
One of the areas that need to be reviewed is the research methodology that previous research works have utilised in pursuing their research. The related literature
has shown that the typical method used in analysing the performance largely relies on the use of descriptive statistics. In some occasions, qualitative assessment are included as part of the research methodology in order to gain greater understanding of the performance and the factors affecting the performance of the IPOs.
The research mentioned earlier in this section which focused on an assessment of the long-term performance of the IPOs of Europe's new stock markets used both
qualitative and quantitative assessments as part of the methodology.5 The research approach was a combination of qualitative assessment (to discuss the rationale for the
resulting performance) and quantitative analysis (on the IPO performance and which, as expected, was analysed and presented using descriptive statistics).
The research work noted in the introduction highlighting the continued debate on the near-term abnormal returns of IPOs and their long-term underperformance was a
research piece focused on the returns of IPOs from the Istanbul Stock Exchange. In this research, the performance of the IPOs was assessed utilising descriptive statistics with a comparison of means (z-test: sample for two means) as part of the statistics tool kit utilised.
Clearly, the use of descriptive statistics and statistical tests for significance seems to be the preferred method of analysis for these types of research assessments. The
dominant use of descriptive statistics also provides confidence that this is the method that would be most logical for the dissertation in the assessment of performance of the IPOs in the stock exchanges.
4.2 PERFORMANCE OF IPOs
Another area focused on in this dissertation is the performance of the IPOs in the Chinese and Hong Kong stock exchanges as well as other regional and global stock
exchanges. In terms of IPO performance assessment, one research work focused specifically on bank IPOs and their growth. Interestingly, this and the research work
mentioned earlier on IPO performance (Europe's new stock markets) both found that long-run post-offering returns were poor when compared to various market benchmarks.
This finding was supported by another research whose results were from an analysis of 6,000 NASDAQ IPO stocks. Thus, there seems to be a number of research works that have shown the underperformance of IPOs versus other more established stocks or the market benchmarks. A research paper that focused on this underperformance showed that a reason for the underperformance of IPOs was the high expectations which were linked to the IPOs and which affected the prices paid for these offerings. This result is rather ironic as the high expectations given by investors indicate that these investors expected much higher returns from IPOs versus other stocks that these investors could have invested in.
A research work with similar findings on the long-term underperformance of IPOs was done on the UK IPOs from the period 1996 to 1999.9 For this research, the
long-term underperformance of the IPOs in the study was considerable versus the market performance. A period of three years was used as the long-term period. The research notes that this underperformance has been seen in a large number of countries where the IPO performance was measured over a number of years to assess its performance. The key factors identified in the research as impacting on the long-term performance of the IPOs were:
(1) percentage of equity issued as part of the IPO, and
(2) degree of multinationality of a firm issuing the IPO.
On the first point, the research finding noted that the greater the percentage of the equity issued for the IPO, the greater the probability of underperformance over the long-term. On the latter point, the research finding was that the greater the multinational component of a firm was, the better the expectation for a long-term performance.
Further to the research on UK IPOs, another research work on the UK IPOs but focused on the AIM-listed firms versus those on the main board of the London Stock Exchange showed a similar result in terms of long-term underperformance of IPOs.
This research work has an additional finding on the cost of equity that is relevant to the risks faced by firms pursuing an IPO. This finding is discussed in greater detail in a later part on the assessment of risks.
The research works with an assessment showing poor long-run returns for IPOs is not unanimous though as opposing performance arguments also exist with IPOs being
shown to be undervalued and thus provide good, long-run returns even versus the market. However, the reasons that the results are different for this research work is the
adjustment done on the valuation of the IPOs which result in the IPO valuation being markedly different from those considered in the other researches which found poor longrun returns for IPOs. This research work utilised an alternative method with adjustments made on the performance of the IPO stocks.
The research work on the Istanbul Stock Exchange highlighted a number of reasons for the performance of the IPOs, particularly the abnormal returns shown in the near-term: overvaluation of IPOs by investors and deliberate under-pricing for the IPO which then rewards the informed investors.
The long-term underperformance of IPOs is not shared and accepted universally as other research works exist which shows that this is not the case, at least for the
particular market and time period considered in these research works. A research on Malaysian IPOs from 1992 to 1996 showed that these IPOs showed particularly strong growth in stock prices over a three-year period from the issuance. This thus negates the concept of long-term underperformance shown by a number of research works. The difference in results could be attributed to a number of factors which could include differences in the parameters of the research factors related to the IPOs such as, for example, the definition of long-term in the assessment (this Malaysian research study utilised a period of three years to define the long-term).
Further evidence of long-term performance contrary to other international evidence is that result from a review of IPO performance in Greece from the period 1993 to 1997, which showed that the IPOs performed much better than the market over the long-term and not just in the near-term for the effects of the abnormal near-term returns. In this research work, the definition for long-term performance was again different as the period of one year was taken for this assessment to reflect the long-term performance of the IPOs. The research piece attributes the difference with international evidence to possibly the legal framework, the institutional arrangements, and the degree of development of the capital markets.
To further complicate the current thinking on the performance of IPOs, a research work focused on Germany IPOs from 1977 to 1995 showed varying performances over the long-term with some IPOs resulting in considerable underperformance while other IPOs showed excellent long-term performance.15 The focus of the research was not necessarily the determination of the long-term performance of the IPOs and thus could not be considered as inconclusive. The actual focus of the research work was the determination of the action post-IPO and the ability to determine which of the IPOs would perform better over the longer-term. The research finding was that the key predictor of the long-term performance of an IPO was the subsequent financing activity in the equity market with the firms being able to raise additional funds soon after the IPO slated for out-performance versus other firms which failed to generate further funding.
Several reasons have been put forth as supporting the underperformance of IPOs in most markets. A research work which looked at French IPOs but focused on the
impact of ownership resulted in findings that ownership had an influential and large impact on long-term performance of the IPOs.16 The reason for this was that at some
point, usually a typical long-term period such as three to five years, ownership restriction in terms of selling off stakes would have been lifted. Thus, the sell-off of family or block holdings in IPOs after a long-term period impact negatively on the share price and becomes a large reason for the underperformance of IPOs over the long-term. This finding would seem to be applicable to most firms pursuing IPOs as it would be usually the case that a firm issuing an IPO would have large blocks of holdings controlled by very few entities or personalities.
4.3 RISK ASSESSMENT OF IPOs
While a number of research works such as those cited earlier have focused only on the performance of the IPOs, other research works have combined the analysis of the
risk and rewards related to IPOs, which would be parallel to the focus that this dissertation is geared to do. One, in particular, focused on the risk and return trade-off
for IPOs though, admittedly, there was greater focus on how these issuances were riskassessed.A rather focused look on long-run performance showed that industry
parameters, timing of IPO, and industry situation all play in the aftermarket returns of IPOs which, in general, are not favourable.
One of the risks identified in a research work on AIM-listed IPOs was the resulting cost of equity. A decision factor for the firms considering pursuing an IPO should be the cost of equity and the research finding on the assessment of AIM-listed stocks showed that, potentially, cost of equity is much greater than that expected with the listing on these stock exchanges.Using this as an analogy to the current issue of issuing an IPO between Chinese and Hong Kong stock exchanges, it is possible that this is a risk faced by the mainland Chinese firms in their decision.
4.4 PERIOD OF ASSESSMENT
A factor that needs to be made consistent in the assessment of the performance of the IPOs is the period of assessment. The proper time frame could impact on the
performance considerably and in viewing this assessment, it would be important to have the proper time frame from which to consider returns. For example, flipping of IPOs impact the pricing of some IPOs post the offering and affect the returns if taken within a short time frame.
There is thus a question of the period defined by near-term as well as long-term performance given different periods taken by researchers in conducting their work.
Understandably, this could have been driven by the availability of data of the stock prices. In order to have a proper assessment for this dissertation, it would probably be best to utilise the following time periods: one month for near-term performance, and 3 years for consideration of long-term performance. These seem to be the periods that most of the researchers had utilised though it does differ from some of the period conventions used in other researches.
4.5 CHINESE AND HONG KONG IPOs
Despite the existence of numerous research work on the assessment of risks and rewards of IPOs across exchanges globally, there have been limited research works
which focus on the Chinese and Hong Kong IPOs of recent years. One recent unpublished work touched on under-pricing and the aftermarket liquidity of Hong Kong
IPOS, and found that under-pricing was evident in driving liquidity post-IPOs. A more comprehensive published work on Hong Kong IPOs utilised slightly dated figures (IPOs up to 2002) and thus presents a challenge in the findings concluded.22 Another is dated (published in 1998) but does look at the issue of pricing and aftermarket performance of IPOs with results showing large returns accruing in the long-term for IPOs.
Other China-related research work focus on performance post-IPO but refer to operating performance of the firms and not the performance of the share price.One
research which looked at short-term and long-term IPO performance in China highlighted a number of differences affecting Chinese stocks: stake that the government has in the firm, the size of the firm, and the options available to Chinese investors.
Over the next few years, there will continue to be increased interest in the IPOs of firms in mainland China as these firms seek to tap international investors. In turn,
international investors are increasingly interested in investing in the mainland Chinese firms given their typical profitable nature (largely owing to monopoly or large market
share status) and the presence these firms have in mainland China that international investors find attractive. The pursuit of the IPO by the mainland Chinese firms is partly driven by the need to diversify ownership risk, particularly for the mainland Chinese firms which are predominantly state-owned enterprises (SOEs).
Thus, despite extensive related research, there is still scope to pursue this dissertation as it provides further evidence of the risk and reward assessment of IPOs.
The approach to the dissertation followed an explanatory research approach. This approach was deemed to be the best approach to address the research questions,
particularly with the requirement of discovery of insights and ideas. The research approach relied on both extensive primary and secondary research providing a
complementary basis for conducting the assessment and analysis of the issues in the research.
This section is structured as follows:
· Research analysis and approach.
This part describes the overall research approach utilised in this dissertation and the methods of analysing the information retrieved
from primary and secondary research methods.
· Primary research.
This discusses the primary research undertaken in this dissertation, including the objectives in the methods used.
· Secondary research.
This presents the use of secondary research and the complementary approach to the primary research tools.
· Research limitations.
In the conduct of the dissertation research, a number of limitations presented itself which impacted on the results of the dissertation. These are explained in this part.
· Ethical considerations.
This part goes through the key ethical considerations in the process of completing the dissertation.
5.1 RESEARCH ANALYSIS AND APPROACH
The dissertation was conducted using a problem-solving approach. This methodology was used in assessing the quantitative results from the statistical analysis
and also in analysing the results of the in-depth interviews, and secondary research. The dissertation utilised a combination of desktop analysis (the statistical analysis and
quantitative assessment of the performance of IPOs in various stock exchanges), input from industry practitioners (the qualitative assessment of risks of the IPOs), and desk research (primarily for the secondary research and in providing further support to the results of the statistical analysis and qualitative assessment).
The assessment of the performance of the IPOs was conducted using descriptive statistics as these allowed for an objective comparison of the performance (or returns) of the IPOs. Descriptive statistics was also used to show other relevant trends related to the performance of the IPOs from the Chinese and Hong Kong stock exchanges, and also the comparison versus other regional and global stock exchanges.
After the assessment and analysis, and with the preliminary results on-hand, the research findings were tested and reviewed in the ‘market' through discussions with other stakeholders to ensure that these research findings were sound and logical. The market review also provided feedback and confirmation of the possible research contribution that the dissertation provides. This has been noted as part of the findings and analysis section.
5.2 PRIMARY RESEARCH
The key primary research utilised in this dissertation involved interviews with industry practitioners involved in Chinese and Hong Kong IPOs. The objectives in this primary research method were to:
(1) understand the key risks for firms pursuing their firms' listing in the Chinese and Hong Kong stock exchanges, and (2) determine the perception of the industry practitioners as to the relative performance of IPOs being done in the Chinese and Hong Kong stock exchanges. The interviews were conducted to get an understanding of the key risks that firms are exposed to by pursuing their IPOs in Chinese and Hong Kong stock exchanges. The use of in-depth interviews was selected as
the primary research method as this provided an opportunity for the researcher to gain deeper insights into the issues focused on.
It was initially planned that in-depth interviews of various stakeholders in the industry would be pursued in order to have a good breadth and depth in understanding the
key risks and to get input from a diverse set of stakeholders. However, the research limitations in terms of timing, access to various stakeholders, and leverage of contacts in the Chinese and Hong Kong financial services sectors provided a hindrance to having an extensive list of industry practitioners included in the primary research.
Nevertheless, the researcher was still able to have several in-depth interviews and these provided a good indication of the overall viewpoints currently existing in the industry, particularly related to the risks that exist for firms.
5.3 SECONDARY RESEARCH
The secondary research for this dissertation involved two key approaches:
(1) statistical analysis of stock price performance of selected IPOs in the Chinese and Hong Kong stock exchanges as well as several regional and global stock exchanges, and
(2) desk research to understand the viewpoints currently existing on the performance and risks of IPOs in Chinese and Hong Kong stock exchanges.
5.3.1 Statistical Analysis
The first secondary research method involved the quantitative data analysis of the performance of the IPOs in the Chinese and Hong Kong stock exchanges. This analysis
effectively supported the assessment the performance of the listing in these stock exchanges to determine if there were differences in the performances of IPOs for these
exchanges. The objectives in using this method were to have an objective view of determining the performances and also to assess if there were significant differences in
the performances of the listings.
As part of this statistical analysis, selected IPOs from other stock exchanges were also analysed in addition to those from the Chinese and Hong Kong stock exchanges.
This was done to extend the analysis and determine if there are differences in the results that should be worth noting that could impact the decision of decision-makers in
assessing the ‘right' stock exchange from which to issue their firm's shares. The statistical analysis was conducted using the statistical analysis tools of Microsoft Excel. In assessing the performance of the IPOs, the assessment utilised the statistical analysis test based on the difference between the means of two populations. In this case, the two populations were the (1) performance of the IPOs, and (2) performance of the stock exchange index, the Hang Seng Index, which was used as the basis for comparison.
In using the test for the difference in the means of the two populations, the ongoing null hypothesis was that the means of the two populations being tested were
equal and that there was not a statistically significant difference between the performances of the two populations. The acceptance of the null hypothesis would have
shown that the IPO performance was similar to the performance of the overall index. On the other hand, the rejection of the null hypothesis would have meant that there was a difference, whether positive or negative, between the IPO performance and the stock exchange index performance.
The specific Microsoft Excel statistical tools used were the descriptive statistics and the z-test: Two Sample for Means. The first tool was to form the basic statistical
information needed for the analysis and the second tool was used for the testing of the statistical significance of the null hypothesis. In this research, a 95% level of significance was used together with a two-tail test. For the rejection rule, the following z values were used: z < -1.96 or z > 1.96. These values were taken from the normal distribution table. The initial viewpoint was based on the means of the two populations tested.
These means were then tested using the z-test for the significance of the differences, and the ascertain whether to accept or reject the null hypothesis. This approach was based on the research steps used in a research work utilising both a comparison of the means and then a significance testing for the differences.
5.3.2 Desk Research
The dissertation also utilised extensively, as part of it secondary research, desk research focused on academic journals, industry reports, and research articles, to
determine other viewpoints that exist and which discuss the research questions formulated for the dissertation. The results of this secondary research method were
included in the literature review (presented in the previous chapter of this dissertation), and analysed the existing viewpoints from considerable research work on the issues of IPO performance and risks. To the extent possible, the research results discussed in the literature review were the research works related to the Chinese and Hong Kong stock exchanges.
5.4 RESEARCH LIMITATIONS
As with most of the academic research conducted, this dissertation had a number of limitations that need to be noted. The key limitations were the following:
· Extensiveness of literature review.
While the goal was to be able to include and review a large part, if not all, of the most relevant research related to the issues addressed in this dissertation, it was possible that some of these research works were not included and reviewed. These could be attributed to the limited time in
completing the dissertation as well as the possible limitations in the journal databases to include all academic journals that were relevant to this dissertation.
· Completeness of viewpoints from industry practitioners.
As mentioned in an earlier part of this section, the objective was to have input and contribution from a wide list of industry practitioners. However, limitations in terms of time and possible access to some of these industry practitioners have limited the input for the in-depth interviews from a select few that the researcher was able to contact and request input from.
· Completeness of IPOs included in assessment.
A final limitation was in completing the information for all the IPOs for the Chinese and Hong Kong stock exchanges, and other regional and global stock exchanges. First, only a number of stock exchanges were included in this research. For the purposes of this dissertation, the following stock exchanges were included in this assessment: Shanghai Stock Exchange (to represent the Chinese Stock Exchanges as it is the largest stock exchange in China), the Hong Kong Exchange, the Singapore Exchange (for the regional stock exchanges), and the London Stock Exchange (to reflect the global stock exchanges included in the assessment). Second, the information collected for the stock price evolution of the IPOs were based off the data presented in the websites of the stock exchanges, and also other third party sites providing this information (such as Yahoo! Finance). Third, not all IPOs were included as this effectively would have resulted in all listings being included in the assessment. There were also some inconsistencies in the existing data as well as some challenges in retrieving the IPO data for some of the listed firms. For these reasons, and given the recent market developments affecting the financial markets, most of the IPO information considered for the assessment were from the past three years in order to make it particularly relevant for the research.
5.5 ETHICAL CONSIDERATIONS
In completing this dissertation, there were several ethical considerations that need to be highlighted as the research work also included a qualitative aspect in the approach.The key ethical considerations were the following:
· Respect and professionalism:
The researcher showed respect and professionalism in approaching all stakeholders involved in the conduct of the research, including the interviewees and respondents to the in-depth interviews. The researcher was highly appreciative of the commitment and helpfulness shown by different persons involved in the dissertation.
· Confidentiality and privacy:
The researcher was amenable that those involved in the process and provided input were assured of their names being kept confidential and kept private. All qualitative information related to the dissertation and which were sourced from industry practitioners were provided voluntarily by the interviewees.
· Transparency and disclosure:
The researcher was transparent in the conduct of the research and all interviewees were given an overview and brief of the objectives of the research, including the approach taken in the research and the use of the input from the interviewees.
The three points above were the key ethical considerations that the researcher considered particularly in the approach to sourcing qualitative assessment of the risks that the researcher was completing as part of the dissertation.
TIMETABLE AND RESOURCES
This section briefly discusses the timetable of the dissertation and the resources utilised in completing the dissertation work.
6.1 TIMETABLE / PROCESS
With this dissertation having been completed already, the actual timetable with specific milestones has not been included anymore in this dissertation paper.Nevertheless, in order to provide an understanding of the overall research approach and steps taken to completing the dissertation, a brief overview of the key steps taken are presented:
· Research design and methodology:
One of the first steps taken in the dissertation was defining the research design and methodology. This was developed fairly early in the process as it was important to have the right structure and approach in completing the dissertation. The research design and methodology was driven off the research questions identified for the dissertation to support the achievement of research aims and objectives.
· Secondary research:
Secondary research was initially conducted in developing the literature review for the research proposal. This was done to get a preliminary assessment of the existing research works that have been done of the subject. During the conduct of the research for the dissertation, further secondary research was conducted to complete the literature review. In addition, statistical analysis was conducted on the stock prices of IPOs in selected stock exchanges as part of the assessment of performance of IPOs in these stock exchanges.
· Primary research:
In parallel with the secondary research, in-depth interviews were pursued with industry practitioners to gain an understanding of the risks associated with IPOs in Chinese and Hong Kong stock exchanges. The in-depth interviews provided a complementary assessment to the risks determined from secondary research.
· Assessment and analysis:
When the primary and secondary research steps were completed, an assessment of the information was conducted to bring out the relevant findings and potential recommendations resulting from the analysis. The completion of the key steps defined above then led to the formulation of conclusions and recommendations related to the research questions defined for the dissertation.
The key resources utilised in completing the dissertation were the people involved in the in-depth interviews, other stakeholders in the dissertation, and the research
publications as well as stock price information used as part of secondary research. Other stakeholders that were part of the dissertation include the researcher's adviser, other instructors in the school, and friends and relatives who helped out in providing guidance and support throughout the dissertation process.
The research publications utilised as part of the dissertation research included the academic journals, press articles, and other industry reports. These research publications were utilised in providing the researcher with an extensive understanding of the issues and research work already conducted in addressing the research questions. The use of these research publications was particularly helpful for the researcher in providing a framework of analysis for the dissertation, and providing some thoughts on how the work and research could be structured.
FINDINGS AND ANALYSIS
There are several parts to this chapter which presents the findings and analysis of the dissertation. The section is structured as follows:
· Performance of IPOs:
This part compares the performance of IPOs between the Chinese and Hong Kong stock exchanges, and also between selected IPOs of other regional and global exchanges.
· Risks in listing in Chinese and Hong Kong stock exchanges:
This presents the arguments highlighting the risks that issuers face in listing their stocks in Chinese and Hong Kong stock exchanges. This part also includes the benefits of issuing in these stock exchanges.
· Research contribution:
The final part to this section provides a brief overview of the thoughts of the researcher as to the contribution of this research to the overall academic research existing.
7.1 PERFORMANCE OF IPOs
The assessment of the performance of IPOs will be focused on a look at the performance of IPOs of Chinese firms that have listed their initial issuances in various
stock exchanges: Shanghai Stock Exchange, Hong Kong Exchange, Singapore Exchange, and the London Stock Exchange. The recent trend for Chinese firms to tap the overseas exchanges for their IPOs in a way limits the amount of information to be used for this research. Nevertheless, most of these IPOs were included to the extent possible. Two periods were considered: one month performance for the near-term and three-year performance for the long-term. Again, given the recent trend that is being researched, there are only limited data available for the assessment of the long-term performance of these Chinese IPOs.
A total of 21 IPOs were included in the assessment of performance of IPOs for the Hong Kong Exchange. This showed the importance of the stock exchange as viewed by mainland Chinese firms. There were very limited data in the other stock exchanges considered. The results of the statistical analysis follow.
7.1.1 Hong Kong Exchange
In the IPOs for the Hong Kong exchange which were tapped by the mainland Chinese firms, a number were done over the past few years. The analysis was done for the IPOs from 2005 were the information was available. See table 1 for a summary of the results.
In the first instance, a look at the means of the returns shows mixed results. For the years 2006 and 2007, IPOs had much larger returns in their first month versus the
performance of the Hang Seng Index over the same period. However, this was not the case for 2005 and 2008. For 2008, in particular, the IPOs performed considerably worse than the performance of the Hang Seng Index in the same time period considered. This performance for 2008 could likely have been driven by the uncertainty of the current subprime crisis affecting the financial markets globally.
Only the 2005 IPOs had been issued long enough to have a three-year performance data available for the assessment of the long-term performance of the IPOs. For this data set, the three-year performance of the IPOs were considerably higher versus the performance of the Hang Seng Index, c.253% versus c.75%, generating more than three times as much average returns.
As there were only a relatively limited number of IPOs in the overall data set included in the Hong Kong Exchange comparison, the z-test used for the assessment of
the difference of the means incorporated all the IPOs in one data set and not separated by years as shown in the table. Note the means of the overall results for 2004 to 2008 for the two populations. The IPOs had a mean return of 8.1% in their first month of trading while the Hang Seng Index had a mean return of 2.4% in the same period as the IPOs in the data set.
The z-value of 1.32 falls within the range of z < -1.96 or z > 1.96, defined for a test with 95% level of significance with a two-tail test. The result shows that the null hypothesis is NOT rejected and the hypothesis that there is no difference between the two means stands. Thus, for the IPOs in the Hong Kong exchange, there is no significant difference in the performance of the IPOs versus the stock exchange index, at least for the first month of trading of the IPOs.
With the limited data for IPOs which were started much earlier and thus could have provided the results for the long-term performance comparison, there was no
statistical test conducted for the long-term performance of the IPOs versus the stock market index. The only indication provided which resulted from the data gathered was the mean returns of the IPOs over the three-year period which was much higher than the return of the Hang Seng Index over the same period of the IPOs.
The Hong Kong Exchange has been the favoured stock exchange by mainland Chinese firms listing overseas (see appendices A to D for the partial list of H share and
red chip companies which listed in the Hong Kong Exchange). China-related stocks make up a significant part of the Hong Kong Exchange with as much as c.60% of the
turnover and c.50% of the market capitalisation in the main board directly related to the mainland Chinese companies. Equity funds coming in for investment in the mainland Chinese IPOs are extensive as well. See appendices E to J for the detailed figures of turnover, market capitalisation, and equity funds relating to mainland Chinese companies for the Hong Kong Exchange.
7.1.2 Shanghai Stock Exchange
One of the objectives of the dissertation was to compare the performance of the IPOs between the Chinese and Hong Kong stock exchanges. Given its size, the Shanghai Stock Exchange was chosen for the Chinese Stock Exchange for the comparison with the IPOs in the Hong Kong Exchange. Unfortunately, the limited stock price data available in terms of being retrieved for the comparison rendered this aspect of the research moot.
There were other challenges which prevented the completion of this part of the dissertation: (1) Chinese regulation had limited domestic issuances and this was only
allowed again in 2007 thus limited the number of IPOs for the data set, (2) the IPOs in the Shanghai Stock Exchange were mostly seen as well in other exchanges as these firms pursued dual listings in other stock exchanges such as the Hong Kong Exchange, for example, and (3) stock price data for the other smaller mainland Chinese firms were unavailable.
Given the close link of the Hong Kong Exchange and the Shanghai Stock Exchange as well as the dual listings of the firms in these two exchanges, an assessment of the performance of the IPOs in the Shanghai Stock Exchange could very well be similar to that of the Hong Kong Exchange if the data set were limited to the mainland
Chinese firms issuing in these stock exchanges.
7.1.3 Singapore Exchange
Similarly, there was limited assessment of the performance of IPOs in other regional exchanges for mainland Chinese firms. The Singapore Exchange was chosen for
the regional exchange for the comparison given its status as an international financial centre similar to Hong Kong.
Over the past few years, only one mainland Chinese firm had issued in the Singapore Exchange. This is Fujian Zhenyun Plas which pursued its IPO in the Singapore Exchange on August 3rd, 2007.30 As this is a relatively recent IPO, the comparisons made with the stock exchange index, in this case the Strait Times Index, was
based on two periods: one-month and up to the current trading. Table 3 shows the result of the comparison of the IPO performance of Fujian Zhenyun Plas with the Strait Times index.
In the first month of the IPO, the stock price decreased significantly, dropping by almost 40% from its price after the first day. This was considerably greater than the drop experienced by the Strait Times index of only c.1% in the same period. For a relatively longer time frame comparison, the stock still fails to perform compared to the Strait Times index although the difference in smaller versus the 1-month performance.
For the period from August of 2007 to the current period (almost a year since the IPO), Fujian Zhenyun Plas dropped by c.37% versus its first day price. In comparison,
the Strait Times index only decreased by c.12%. Thus, for the Singapore Exchange, the performance of the mainland China firm was relatively much poorer versus the Strait Times index over the same period of comparison.
7.1.4 London Stock Exchange
The other aspect of comparison that the dissertation wished to pursue was a comparison of the performance of mainland Chinese firms' IPOs in a global exchange.
The London Stock Exchange was chosen for this comparison given its recent thrusts in building its presence and capability in China with the establishment of the representative office in Beijing to market its products and services.
Similar to the Singapore Exchange, only one IPO from a mainland Chinese firm has been included in recent years. This firm is Air China which issued its IPO in
December 15th, 2004.31 Surprisingly, while this IPO has been mentioned in the news and also officially listed in the IPOs of the London Stock Exchange, the stock prices of the firm are not available in the London Stock Exchange website. Yet there has not been any news about a de-listing of the stock from the London Stock Exchange although that seems to be the case in this situation.
7.2 RISKS IN LISTING IN CHINESE AND HONG KONG STOCK EXCHANGES
Mainland Chinese firms considering listing their firms have obvious reasons for listing in China given it is their domestic market. More international mainland Chinese
firms have sought to tap international investors through a dual listing in overseas exchanges. The Hong Kong Exchange provides that benefit and other stock exchanges worldwide have also been angling to provide this service and capture the Chinese market for these overseas listings.
One area that needs to be considered by decision makers in the listing of their shares in Chinese and Hong Kong stock exchanges at the risks that the firms may be exposed to. Based on interviews from a number of industry practitioners in the financial services market in China and Hong Kong, the following are the key risks that firms deciding on a Chinese stock exchange will face. Given the limited number of interviews conducted as part of the assessment, this part of the dissertation has been augmented by relevant secondary research where applicable.
· Regulatory uncertainty:
Though China has opened up its markets in recent years and the legal framework has developed considerably, there remain doubts and uncertainty as to the steps that may be taken once specific situations arise. There is still a perception that the legal framework is weak and that shareholders have little protection versus the state.32 This would certainly deter investors from pursuing this route via the Chinese Stock Exchanges if opportunities exist to invest through other stock exchanges.
· Investor hesitancy:
In some ways, this is related to the first point above. However, this is worth a specific mention as investors having uncertainty will prevent mainland Chinese firms from achieving their objective, for some at least and not all firms, of enticing foreign partners to their firms. For example, in 2005 for the Chinese banking sector, Chinese leaders encouraged their largest banks to seek partnerships for building their capital and management capability.
· Volatile market:
The Shanghai Stock Exchange index has been relatively volatile in recent years. It has enjoyed its growth as well such as when large highly valued firms list on the exchange (e.g. Bank of China, PetroChina).34 However, its recent performance has been suspect and it is currently in a 15-month low. Despite the volatility of the market, there is still strong support and planned activity with China State Construction Engineering Corporation having applied for a listing and which could be the stock exchange's largest IPO for the year.35 China State Construction Engineering Corporation has been operation for only six months and will be a test of the resiliency of the markets.36 Zijin Mining, China's largest gold miner, issued its IPO in the Shanghai Stock Exchange earlier this year. 37 The issuance price was based off the top end of its indicative price range, showing the extent of demand for the offering.38 This was similar to the offering of China Railway Corporation which issued at the top of its indicative range.39 Other firms issuing include: Jinduicheng Molybdenum Company40, Shengjing Bank41, Shanghai Film Group42, Spring Airlines43, Hangzhou City Commercial Bank44, and China Everbright Bank.
· Strong pipeline:
Shanghai Stock Exchange continues to show a strong pipeline and is a risk for some mainland Chinese firms as this may increase the competition for the
investors' funds particularly from international investors. The Shanghai Stock Exchange plans to have another record year and will also be issuing a large number of
small- and medium-enterprises for their IPOs. Simultaneous issuances places greater strain on pricing, disclosure and regulatory clearance. Ernst & Young expects the total issuances in the Chinese market to reach US$45 billion in 2008.
· Poor reputation:
The size of the firms in the Shanghai Stock Exchange and also the support it has from the Chinese regulators should prop it as a stable and firm stock
exchange. However, it remains on the lower list of investors in terms of preferred stock exchanges. While it now ranks as one of the world's biggest markets, some
international investors still do not give it its due regard.49 The growth of the Shanghai Stock Exchange can be seen from various indicators such as market capitalisation and number of firms listed. See appendices K to N for some detailed figures showing the extent of the business of the Shanghai Stock Exchange.
· China's corporate governance remains questionable:
Unfortunately, the perception of China also affects the perception of the Shanghai Stock Exchange. China's corporate governance structures remain poor and the EIU sees issues that include the following description: “manipulation of share prices is rampant, and standards of corporate governance and auditing are low and poorly enforced.”
· Strict requirement for listing:
As there has not been a lack of firms interested in issuing in the mainland Chinese stock exchanges, there are stringent rules which have been put in place by the regulator. These include profitability requirements for a consecutive period of three years.51 The technical requirements and hurdles set by the regulator affect both the local as well as international firms interested in listing in the Shanghai Stock Exchange.52
For a decision on an issuance in the Hong Kong Exchange, the following are the key risks:
· Hong Kong Directorships not as familiar with China Mainland Businesses:
With a listing on overseas markets such as Hong Kong, it is expected that some of the Directors that will be part of the mainland Chinese firms will be from Hong Kong. A possible drawback to this approach is that some directors from Hong Kong are not as familiar as directors from mainland China may be with regards to Chinese procedures and businesses. This issue was highlighted in a research work tackling overseas listing by mainland Chinese firms.
· Slowing trend of IPOs:
There has been a marked decrease in IPO activity in the Hong Kong Exchange from mainland Chinese firms which has largely been driven by the lifting of the Beijing ban on domestic Chinese IPOs in the middle of 2006.54 The market has certainly been affected as well by the global uncertainty caused by the US sub prime crisis with some investors holding on to their cash and investments in the meantime. This, of course, has affected other exchanges as well and not just the Hong Kong Exchange. For the Hong Kong Exchange, the forecast is for IPOs to drop in value of HK$260 billion in 2008, lower than the HK$290 billion raised in 2007.55
· Impact of IPOs which have been cancelled:
A number of IPOs have been cancelled due to the current market conditions.56 For mainland Chinese firms still wishing to continue with their listing, the firms will need to build a strong case in order to ensure that investors remain interested in their offering.
· Greater scrutiny from international investors:
As the Hong Kong Exchange naturally has more international investors versus the Shanghai Stock Exchange, it is likely that mainland Chinese firms issuing in Hong Kong will face greater question as to their listing.57 This situation is not necessarily the case in a Shanghai listing.
· China regulatory uncertainty:
Even for Hong Kong, China's regulatory oversight can have an impact. In 2007, the Chinese regulator introduced limits to the number of mainland Chinese firms that could tap the overseas exchanges for their issuances.Thus, for firms considering the Hong Kong Exchange, or other overseas exchanges, the decision may need to come quickly before further regulations place a barrier on these decisions. Another regulation being contemplated by Chinese regulators is to limit the investment that Chinese investors can pursue in Hong Kong thus keeping the funds of these Chinese investors within China for use in possibly the local stock market exchanges.
While there are a number of risks that an issuer faces in issuing in Hong Kong, there are a number of advantages. These advantages have been vetted as seen from the
number of mainland Chinese firms that have chosen a listing in Hong Kong for its IPO. The Hong Kong Exchange has listed a number of advantages that listing in the Hong Kong Exchange provides. Though the dissertation has focused on the issue of issuance for a mainland Chinese firm, the advantages stated herein for the Hong Kong Exchange are for both mainland Chinese and other issuing firms. These advantages include the following.
·Gateway to Mainland China.
Hong Kong sees itself as a gateway to China and the stock exchange, unsurprisingly, markets itself similarly. Hong Kong Exchange has close trading links and relationships with China and other countries in the region. With Hong Kong's international recognition as a financial centre and a strategic position near China (and other markets in the region), Hong Kong Exchange views itself as a hub from which financing, through IPOs, has been provided to “many Asian and multinational companies with fund-raising opportunities.”
· Leveraging on Mainland China's growth.
With the close proximity of Hong Kong to China and its status as being a part of China, Hong Kong Exchange has positioned itself as the key stock exchange for firms wishing to tap into Mainland China's growth. The issuers will not only be able to utilise the proximity in tapping potential investors to a planned IPO but also receive greater exposure to the Mainland China market.
· Home Market Theory.
An advantage of Hong Kong is that it is part of China while, at the same time, having strong recognition as an international financial market. Thus, it can be referred to as having the best of both worlds. Certainly, for mainland China firms seeking to tap investors through an IPO, Hong Kong would be at the top of the list for the decision. The Hong Kong Exchange positions itself as a key beneficiary of the home market theory which is supported by statistics that “a significant portion of the trading value of Mainland Chinese companies is conducted in Hong Kong where such companies have a dual listing in Hong Kong and another major overseas exchange.”
· Strong legal system.
As an international financial centre, Hong Kong has the benefit of a strong and well established legal system based on English common law following its years under the administrative rule of the United Kingdom. The existing legal system provides a strong benefit for Hong Kong Exchange as it gives comfort and confidence to firms wishing to issue and investors keen to participate in the initial public offerings.
· International accounting standards.
The Hong Kong Exchange accepts the use of international accounting standards in addition to the financial reporting standards established in Hong Kong. Thus, firms using International Financial Reporting Standards (IFRS) and Generally Accepted Accounting Principles (GAAP) favoured in the United States can issue their IPO in the Hong Kong Exchange.
· Sound regulatory framework.
The Hong Kong Exchange has established a sound regulatory framework to support its corporate governance requirements. This provides issuers and investors further confidence in the stock exchange as the listing rules of Hong Kong Exchange match international standards, and stringent requirements ensure a high level of disclosure, and access by stakeholders to transparent informati
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