Initial Public Offerings' (IPOs) valuations and the local equity capital market

Abstract

This study deals with valuation issues in equity IPOs. The first chapter gives a general overview of the IPO process. An attempt is made to uncover the main reasons as to why companies decide to go public and some of the disadvantages which this may entail. The first chapter also includes a brief history of local IPOs as well as the main objectives, assumptions and limitations of this study. The second chapter gives an overview of the valuation process to determine the value of an equity IPO. The determination of the value of an IPO company, as such, is not different from the valuation of any other stock. Here an analysis is made of the most common and appropriate methods of stock valuation to arrive at a fair value per share for the company seeking flotation. The third chapter outlines the market mechanisms which are presently used in Malta to establish the price which potential investors are willing to pay for the shares of an IPO company. Such market approaches, in the IPO process, are more commonly referred to as price-setting mechanisms, and include auctions, fixed-price offers and bookbuilding exercises. In the fourth chapter the relative valuation methodology and the free cash flow .to the firm valuation methodology are illustrated by valuing Maltacom pie and Malta International Airport pie at the time of their respective IPOs. This study then proceeds to test the relevance of a number of theories established by foreign authors with respect to local equity IPOs. Amongst other assertions, IPO researchers have claimed that in most foreign equity markets IPOs tend to be underpriced and that, as a general rule, in the long-run IPOs under-perform the returns of the market in general (both in terms of dividend and in terms of capital appreciation). An attempt has been made to analyse whether these theories hold also in the context of the local equity capital market. In the concluding chapter of this dissertation we tried to identify special valuation characteristics which Maltese equity IPOs have in contrast to and in comparison with, foreign equity IPOs.