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Small Business Economics

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01.01.2011

The survival and success of Canadian penny stock IPOs

verfasst von: Cécile Carpentier, Jean-Marc Suret

Erschienen in: Small Business Economics | Ausgabe 1/2011

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Abstract

We analyze the survival and success of a large sample of Canadian penny stock initial public offerings (IPOs), launched mostly by small and unprofitable firms from 1986 to 2003. The failure rate of these IPOs is lower than in the US for larger IPOs, probably because of lax delisting rules and the market’s capacity to refinance non-profitable firms. The survival of new issuers is significantly associated with their characteristics at the IPO and with the level of initial listing requirement they meet. The involvement of reputable intermediaries in the IPO process mitigates this effect. Success, estimated by the graduation to a senior exchange, is not linked to the financial conditions at the IPO. Overall, Canada seems to have developed a particular strategy to finance the growth of small firms even if the propensity to fail of firms listed at a pre-revenue stage is very high.

Vorheriger Artikel Employment stability in newly founded firms: a matching approach using linked employer–employee data from Germany

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The definition of a penny stock has been debated for years. In the US, a penny stock IPO is priced under US$ 5 and is generally traded on over-the-counter markets, such as the Over the Counter Bulletin Board Exchange (OTCBB). Penny stocks are issued by very small firms, which are generally defined as microcap firms. In Bradley et al. (2006) penny stock IPOs have a mean gross proceeds of US$ 5.7 million. Firms listed on the OTCBB with a stock price lower than US$ 5 (deciles one to six) had a market value ranging from US$ 370,000 to US$ 7.76 million from 1996 to 2000 (Luft and Levine 2004). Accordingly, we consider that penny stocks can be characterized by a market value lower than US$ 10 million.

In Canada, firms graduate when they move their listing from the junior exchange (TSXV) to the main exchange, TSX. However, as TSX is itself a junior market relative to the US main exchanges, a firm listed on TSX can graduate to the NYSE.

According to our definition in footnote 1.

In this field of research, the term “failure” is conventionally defined as the firm’s inability to maintain its listing. The delisting is often associated with a bankruptcy, but also with all the situations where the firm is unable to maintain a financial situation that allows it to meet the ongoing listing requirements.

The propensity of newly listed firms to fail or succeed is estimated using rates of failure or success in some studies, whereas other researchers measure the time elapsed between the IPO and the event. We use both methods in this study.

We do not refer to profitability ratios commonly used in US studies because more than 70% of the new Canadian issuers exhibit a loss at IPO.

The Capital Pool Program has been implemented in Canada to ease the creation of shells, ultimately used in reverse merger listings by operating companies (Carpentier and Suret 2006). Their IPOs result in the listing of a non-operating company; we consequently exclude CPC IPOs from our sample.

We compile a list of VCs operating in Canada from 1986 to 2003 from the lists of the Canadian VC Association, the summary of VC lists of Industry Canada (Strategis) and the lists of the equity sources provided by Mike Volker at http://www.sfu.ca/~mvolker/biz/moneylnk.htm.

They are: RBC Capital Markets, CIBC World Market Inc., BMO Nesbitt Burns Inc., TD Securities Inc., Scotia Capital Inc., Merrill Lynch Canada Inc. and Goldman, Sachs & Co. No other Canadian-based investment bankers control more than 5% of the total market.

NEX is a new and separate board of TSXV that provides a trading forum for listed companies that have fallen below TSXV’s ongoing listing requirements.

The ongoing listing requirements describe the conditions of price, volume and financial characteristics that any listed firm must meet in order to avoid being delisted. NASDAQ delists a company if the stock trades under US$ 1 for 30 days, and if the situation is not corrected during the following 6 months. In 2007, the ongoing listing requirements to Tier 2 of TSXV refer to a minimum market capitalization of CAN$ 100,000, and minimum working capital of CAN$ 50,000. No conditions apply to the stock price.

We use the 10-cent limit given that Canadian IPO prices are, on average, one tenth of prices in the US.

Graduation and cross-listing are not perfect measures of success for IPOs, because some firms that fulfill the listing requirements of the major exchanges do not move their listing. We consider these firms to have survived, but not to have truly succeeded because they do not attempt to reach a more liquid market to finance their growth at a lower cost of capital. Our indicator is compatible with the proposition that the success of a new market can be assessed by its capacity to enable newly listed firms to raise the capital they need, developed by Bottazzi and Da Rin (2002).

These medians can differ slightly from those reported in Table 3, because we are restricted by the availability of accounting data. We were able to collect this information for 2,028 of the 2,373 firms in the population (85.3%).

We also test a model with a separation between NORM4 and the other groups, omitting the size variable (not reported). The coefficient associated with NORM4 is negative and highly significant. Issuers that approximate the recent NASDAQ minimum listing requirements exhibit a failure risk of 27.8% of the risk of the other issuers.

One possible explanation we analyzed is a multicollinearity problem, although the correlation coefficients between PSOUS and most variables are rather low. However, we use a stepwise method to assess the effect of this collinearity on the results. The model and coefficients estimated using this approach are similar to those reported in Table 6.

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Titel: The survival and success of Canadian penny stock IPOs
verfasst von: Cécile Carpentier
Jean-Marc Suret
Publikationsdatum: 01.01.2011
Verlag: Springer US
Erschienen in: Small Business Economics / Ausgabe 1/2011
Print ISSN: 0921-898X
Elektronische ISSN: 1573-0913
DOI: https://doi.org/10.1007/s11187-009-9190-x

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