David E. Vance

Are there Simple Indicators as to Which IPOs Outperform the Market over the Long Term

Aims: Most companies making an Initial Public Offering (IPO) underperform the market over the long term. Is this because investors are so enamored with IPOs that hope triumphs analysis? If investors are willing to invest in companies likely to underperform the market, someone will take them public. This raises the question as to whether there are simple indicators that can be used to identify IPOs likely to under or over perform the market over the long term. Place and Duration of Study: This study is based on publically available information on Compustat, Hoovers On-line IPO Central, and the US Securities and Exchange Commission website www.sec.gov. Methodology: This study analyzes the long term performance of 820 companies that went public in the United States from 1998 to 2007 and tracks their performance for an average of three and a half years. About 48.41% beat market returns defined as the Standard & Poor’s 500. Companies with the best and worst quintile of Underwriter Reputation, Assets, Revenue, EBITDA and EBITDA to Assets where compared, as were industries. Results: The following factors were found to be statistically significant in identifying IPOs likely to outperform the market: (i) Underwriter Reputation (P <.01), (ii) Industry statistical significance varies among the 17 industries in the study, (iii) Assets (P <.01), (iv) Revenue (P<.01), (v) EBITDA (P <.01), and (vi) the ratio of EBITDA to Assets (P <.01). Simulation analysis using the Wilcoxon Sign Rank test confirms that by avoiding companies likely to underperform, a superior portfolio of IPO companies can be constructed (P = .05). Original Research Article British Journal of Economics, Management & Trade, 4(2): 183-196, 2014 184 Conclusion: This study found there are simple indicators for identifying IPO companies likely to outperform the market. No prediction is made as to specific companies, but results can be used to construct superior portfolios.

Customer Service and Relationships

Whether a company sells brilliant technological gadgets or is a simple retailer, customer service should be a key strategy focus. Without customers, a company has no sales, no profits and serves no purpose. Failure to focus on customer service is a hallmark of underperforming companies. It’s not enough for a company to proclaim it is customer focused, it must be focused on the wants and needs of its customers every day.

Cost Analysis and Finding Waste

The best advice a client ever gave me was, “You got to hunt where the deer are,” by which he meant you have to focus effort where the payoff is greatest.

Evaluation Products, Customers and Contracts

Stop the bleeding is often one of the first commands in restructuring. It is rare when any two products, customers, services or contracts are equally profitable; some are probably very profitable and some unprofitable. The unprofitable, when averaged in with the profitable can make the overall company look bad. Identification and elimination of losing products, customers, services and contracts can dramatically improve profitability. This is corporate triage at a more detailed level. Those elements of a business that drain resources, and distract management time and attention should be eliminated. When they are, management can focus on improving the profitability and performance of its core business.

Markets and Pricing

Revenue is just price times volume so getting the right price is critical to growing revenue. If a company sets its price too low, it will leave profit on the table. If a company sets its price to high, it will not reach optimum sales. The relationship of price to cost drives gross margin and a company with too low a gross margin is destined to fail.

Setting Restructuring Goals and Reverse Engineering a Company

Restructuring will be more orderly and quicker if a new CEO or turnaround team designs large scale goals for a company before assigning more detailed and specific restructuring targets. A business model can be developed to help reverse engineer specific performance goals for elements of a company. Such goals can be used to allocate responsibility, evaluate success and allocate scares restructuring resources.

Internal Sources of Cash

Raising capital for a corporate turnaround is difficult, time consuming and expensive. And at the end of the day, there is no guarantee a troubled company will find financing. So what are the alternatives?

Evaluation of Businesses, Divisions, Facilities, and Dealerships

One of the main reasons companies under perform is that they lose focus. It is rare when any two businesses, divisions, facilities, or dealerships are equally profitable; some are probably very profitable, and some unprofitable. The unprofitable, when averaged in with the profitable can make the overall company look bad. Identification and elimination of losing businesses and facilities can dramatically improve profitability and enhance a company’s chances for survival. One way to think of this is cutting out the cancer, the money losing, and the marginal.

Revenue Growth and New Products

Grow or die is an immutable law of business. A company that is not focused on growth is going to have its customers stolen, technology bypassed, best employees lured away and opportunities missed. Ultimately it is going to die. There is no way to stand still in business. Even a business in trouble must find a way to grow. The problem is that companies in trouble or that are under-performing their peers, have limited resources to devote to growth. But the most serious impediment to growth may be what a company is willing to do. In this chapter we will discuss a number of strategies for growth including (i) driving customers, (ii) defining new market spaces, and (iii) new product development.

Diagnosing the Problem

Companies fail or seriously under perform their peers because owners, executives and managers don’t or won’t recognize the early warning signs of trouble. Common reasons companies fail, early warning signs and ratios that throw a company’s problems into bold relief can be used as a spur to action.