Initial return and long run performance of initial public offerings in the Nairobi Stock Exchange

Abstract

Initial Public Offerings (IPOs) marks an important turning point in the life of a company. To the company as an entity, it provides access to public equity capital and so may lower the cost of funding the company's operations and investments. To the public, it provides an opportunity for investment in a liquid market. The objective of this study is to investigate the long-run performance of initial public offerings in Kenya for the period from 2002 to 2008. Data used in this study comes from Nairobi Stock Exchange (NSE) weekly share price. In addition, the study uses a theory on IPO introduced by Ritter (1991) which specifically deals with long-run performance of IPOs and why some IPO companies have substantial positive returns and others have substantial negative long-run buy-and-hold abnormal returns. To evaluate the short-run and long-run performance, this study approaches the problem by differentiating the abnormal return patterns using financial economic methodologies. The empirical findings suggest that the subsequent trading activities in the stock market are the most important factor for determining the future performance of an IPO. These activities are extensively engineered by some of the influential investors with big stake in the stock market. Thus, it is very hard to analyze the fundamental value of this stock market. Future researchers should concelJ,trate on statistical analysis of the dependency of several independent variables. With an a.ttempt to investigate whether the percentage of share sold, the uncertainty about the future value of the firm, the market index fluctuation, the size of firm .the political stability and the value of issue on the first day of trading significantly influence the initial returns.and the long-run performance of IPOs. The results from this study suggest that firms with a superior performance have the opportunity to appreciate in value and can raise - a-dditional capital whereas the poor performers do not get a second chance to sell shares to the public. This means that companies have to earn at least their cost of capital in.o rder to receive confidence from the investors. Compared to other research, this study gives a theoreticaland empirical background on the performance and the significant difference in short-run and long-run performance of IPOs. This finding offers new insights to-b.o.th Academics and practitioners alike.