IPOs: The Formula for Success

Companies that perform better after going public tend to be older, larger, supported by more institutional investors, and globally minded.
Stephen TaubOctober 17, 2007

Why are some initial public offerings more successful than others? According to a new study by Ernst & Young, common factors among those that have worked out well include the age of the company and its CEO, whether the company has a global operation, and the breadth of investor support.

But simply having a sense of when the time is right for an IPO is the biggest driver of success. “When it comes to undertaking an IPO, preparation is unquestionably the key to success in both the short term and the long term,” said Maria Pinelli, Americas director of the strategic growth markets practice at Ernst & Young. “Part of being prepared is to understand what the market responds well to so that you can determine if you are, indeed, ready.”

E&Y analyzed publicly available information on 110 U.S. companies that went public from the beginning of 2006 to mid-2007 and immediately qualified for listing in the Russell 2000, which has been hitting record highs this year.

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Only 11 percent of the companies analyzed went public in their first two years of operation, while the median year of founding was 1998. That is opposite of what occurred during the Internet mania of the late 1990s, when mostly new, unseasoned companies quickly went public; virtually all of them wound up collapsing, saddling investors with huge losses.

Older companies, not surprisingly, were much larger than new ones. Those studied that were launched before 1995 had average annual revenue of $703 million when they made their IPO, compared to $190 million for those born from 1995 onward.

Although young companies may achieve strong growth, age tends to reduce the risk of poor performance, according to the study. Among companies founded in 1995 or later, trading losses 90 days after the IPO reached as high as 52 percent, but for older companies stock prices did not fall more than 20.5 percent.

Of the 110 companies analyzed, 39 percent had global operations, which seem to contribute to stronger post-IPO performance. Among the 43 percent of IPOs that outperformed the Russell 2000 Index as of June 30, 43 percent had global operations.

Success for the studied group of IPOs also seemed to have an interesting correlation with institutional ownership. While just 30 percent of the studied IPOs had more than 80 institutional investors, 38 percent of outperformers did, compared to 24 percent of underperformers. More than three-quarters of companies with fewer than 40 institutional investors underperformed the Russell 2000 Index.

Analyzing the CEOs of the 110-company group, the report found that only 2 percent were women. The average age for chief executives of both outperformers and underperformers was 50 to 54. But 13 percent of the outperformers’ CEOs were not yet 40, compared to only 8 percent for underperformers.

The study also found a link between higher education and higher performance. Among outperformers, 71 percent of CEOs held a higher degree than a Bachelor’s, compared to 61 percent of underperformers.

There was another interesting link between IPO performance and the CEO’s pay package. Ernst & Young found that 66 percent of the IPOs that outperformed the Russell 2000 Index offered their CEOs total compensation of $1 million or more. Only 48 percent of the underperformers offered that level.

And while 2 percent of the outperformers pay less than $500,000, 17 percent of the lesser performers do.

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