The IPO Market Since 2000 and Outlook for 2007

The table below summarizes the performance of IPOs in Japan in each year since 2000. An issue is a winner if its opening prices beat the offering price, a loser if the opening price was lower, and a tie if the two prices were equal. We obtained the winning percentage by dividing winners by the total number of IPOs. The annual capital gain is the sum of gains and losses from purchasing one trading unit (tangen) of each issue at the offering price and selling it at the opening price. The average pct. gain is the average of the differences between the offering and opening prices in each year.

In 2000, the number of IPOs was up more than twofold from the 98 issues in 1999. One major reason was the establishment in 2000 of two exchanges for small-company stocks: TSE Mothers and NASDAQ Japan. But the 2000 upturn in IPOs was followed by declines in the next three years as the Nikkei Average dropped year after year. Falling stock prices reflected in part the end of the IT valuation bubble. Unwinding of cross shareholdings, a characteristic unique to Japan, as banks eliminated problem loans exerted pressure on stock prices. As a result, the number of IPOs dropped until the stock market hit bottom in 2003.

Since 2004, we have seen consistent growth in IPOs as stock markets regained their vitality along with the recovery of Japan’s economy. There were 188 IPOs in 2006, 30 more than in 2005. But 2006 includes the IPOs of about 10 to 15 companies that postponed IPOs scheduled for the second half of 2005 because the computer system of the Osaka Securities Exchange had reached its capacity. After taking this into account, the number of IPOs was about the same in 2005 and 2006.

The winning percentage and average percentage gain for the opening price increased in each year between 2000 and 2005, but this trend came to an end in 2006. There has been a remarkable upturn in these two numbers since 2000. A big drop the cost of each trading unit is mostly responsible. As the cost declined, more individual investors have been able to buy stocks sold through IPOs.

In 1999 and 2000, some IPOs required investors to pay more than ¥10 million to purchase a single trading unit. Examples include Internet Research Institute (¥11.7 million), Rakuten (¥33 million), CyberAgent (¥15 million) and Crayfish (¥13.2 million). Although offering prices were high at that time, investors could often reap substantial capital gains by selling their holdings at the opening price. Selling Internet Research Institute at the opening price would have generated a capital gain of ¥41.3 million for each trading unit. But investors would have suffered a ¥13.1 million loss for each Rakuten trading unit.

The high cost of participating in the IPO market made an IPO a high-risk, high-return investment that was open only to experienced investors with a considerable tolerance for risk.

Stock exchanges subsequently began asking companies to lower trading units to less than ¥500,000. At present, most public offerings have a price per share that is under ¥100,000. Lower prices brought IPOs within reach of a much broader spectrum of investors. Moreover, the lower cost means that even ordinary individual investors cab tolerate the accompanying monetary risk.

In 2006, though, the value of all IPOs was almost ¥500 billion more than in 2005. Furthermore, during the one-month period from early October to early November, the offerings of five companies alone accounted for 56% of funds procured by all 2006 IPOs. But these big offerings caused a sharp drop in opening prices relative to offering prices. In fact, we even saw some opening prices fall below offering prices. On the other hand, there was a big increase in the opening/offering price ratio in December as IPO supply-demand dynamics improved despite the large number of IPOs during this month.

In 2007, market observers are expecting the number of IPOs to fall from the 188 in 2006 to about 150 to 160 issues. In April 2008, all publicly owned Japanese companies will be required to comply with the provisions of Japan’s version of the U.S. Sarbanes-Oxley Act. Since most companies planning on IPOs are small and relatively young, many people believe that some of these companies will have difficulty meeting the stricter listing standards regarding internal controls. Reductions in earnings forecasts immediately following the IPO are another reason for the projected downturn in IPOs. These reductions are likely to prompt tough examinations of the oversight of earnings forecasts and actual performance by securities companies that manage IPOs.

Turning to the outlook for 2007 IPOs, market observers are expecting to see many issues by companies associated with one of three themes. The first is human resources due to the impending labor shortage caused by the upcoming retirement of the baby-boom generation. The second is financial services due to the need for these retirees to invest and manage their retirement payments. The third is corporate revitalization. We may see many IPOs by revitalization funds that are aiming to generate returns on investments made in recent years to rehabilitate troubled companies.

Finally, I would like to outline the proper approach to IPOs in 2007. Investors should use lessons learned during 2006, a period when there were no major buyers in the small-company stock markets. In 2007, we expect that IPO opening prices will remain strong during the first half. However, we foresee a downturn in opening prices in October and November, when several large IPOs are scheduled. In the secondary market, stock prices declined for more than one month immediately after the completion of almost all 2006 IPOs. Therefore, investors that purchase IPOs at the offering price and sell at the opening price should repurchase these shares on the secondary market only after carefully confirming that the price has stopped falling. This is a good entry point for a long-term holding.

In sum, 2007 will be a year when IPO investors can look forward to opportunities with regard to the quality rather than the quantity of IPO issues.

 

Nishibori Takashi
Tokyo IPO.com Chief Editor

Email to :editor@tokyoipo.com