Share allocation in hybrid bookbuilding offerings : evidence from the Hong Kong main board

• Main Author: Yin, Shuxing
• Published: University of Manchester 2006
• Subjects: 332
• Online Access: http://ethos.bl.uk/OrderDetails.do?uin=uk.bl.ethos.621446

The bookbuilding method for taking companies public has been at the centre of public debate. The scandals regarding share allocation of heavily underpriced offerings in the US in the late 1990s and 2000 revealed that underwriters used their allocation discretion in exchange for their own interests through unfair practices. This discretion, as emphasized by Benveniste & Spindt (1989) and Benveniste & Wilhelm (1990), can benefit the issuing firms. In pricing the issue, by favouring regular investors who provide information, underwriters can reduce the average underpricing, and therefore increase the expected proceeds for the issuing firms. In this study, we use a unique dataset of hybrid bookbuilding offerings listed between Jan 1993 and Dec 2003 on the Main Board of the Hong Kong Stock Exchange. The dataset makes it possible to study the pricing, allocation and information distribution among investors during the bookbuilding process by using publicly available information. We find that the institutional demand, as a proxy for private information during the bookbuilding period, is the factor that most affects underwriters' decisions in the pricing process. The importance of this information in determining the final offer price demonstrates the role of bookbuilding as an information extraction mechanism. A significant positive link between initial returns and the price revision confirms the existence of the partial adjustment phenomenon whereby underwriters price the issue below the full information price to allow institutional investors to be compensated via underpricing. We show that institutional investors are given a distributional priority as they take up a larger proportion of the IPO shares with an initial average of 86.S6% and final average of 77.30% after the clawback provision is exercised. However, there is little evidence that they are favoured by underwriters since there is no significant difference in the size of the initial allocations that institutional investors receive in underpriced and overpriced issues. This is partially consistent with the findings of Pons-Sanz (200S) on initial allocations in Spanish hybrid bookbuilding offerings. The standardised clawback provision enforced by the regulator lowers the final allocation to institutions and accordingly their profits in underpriced IPOs. The final institutional allocation reduces to 80.77% (median 8S.00%) in weak IPOs, 79.21% (median 8S.00%) in normal IPOs, and 72.42% (median 72.72%) in hot IPOs. The result is contrary to the empirical evidence documented by Aggarwal et al. (2002) and Pons-Sanz (200S), and deviates from Rock's (1986) model, where institutions concentrate on more underpriced IPOs while leaving "lemons" to retail investors. Given that the institutional demand is higher in hot issues and lower in weak ones, institutional investors are informed. The results can be interpreted as reflecting Hanley and Wilhelm's (199S) argument that institutional investors participate in both cold and hot IPOs in order to receive allocations in future IPOs.