Academic journal article Academy of Banking Studies Journal

Operating Performance of the U.S. Commercial Banks after IPOs: An Empirical Investigation

Academic journal article Academy of Banking Studies Journal

Operating Performance of the U.S. Commercial Banks after IPOs: An Empirical Investigation

Article excerpt


Financial services are perhaps the most significant economic sector in modern societies. In the more advanced service economies, the financial sector is a major source of employment. Given the important role of financial institutions in the economy, any research that helps explain what drives their performance would be beneficial. During the 1990s, due to the stellar performance in the banking industry, most banks had no difficulty in meeting their capital requirements (Bomfim and English, 1999). From 1992 to 1998, the share of the banking industry assets at "well-capitalized" banks rose from around 70% to more than 95%. During this period banks grow their net loan at a rate that exceeds the overall banking industry and actually benefited from using their offering proceeds to enlarge their loan portfolio. During this period, what drives the overall improvements is the focus of our research. The focus attention in this research would be on the banking institutions that went public during this time and try to bring some plausible explanations for the overall improved subsequent performance of these institutions.

The research focuses on the post-IPO performance of depository institutions within an agency framework and also on the ownership-performance issue surrounding the IPO. Four theories are evaluated to shed light on the post-IPO operating performance of depository institutions: agency cost theory, windows-of-opportunity theory, window-dressing theory, and loan-growth-fixation theory. Each of the four IPO performance theories-the agency cost theory, the windows of opportunity theory, the window-dressing theory, and the loan-growth-fixation theory-results from the inherent conflict of interest between the original owners and the new shareholders. This conflict is exacerbated by asymmetric information. Given that current evidence is inconclusive as to which theory can best explain post-IPO performance, the purpose of this paper is to determine how relevant each of these explanations are in explaining the post-issue performance within the banking industry.

The first research question examines whether banks choose to go public during a period of peak operating performance. Gibson, Safieddine, and Sonti (2004) document that institutions increase their investment in SEO firms significantly more than in a matched sample of non issuers and seasoned equity issuers who experience greatest increase in institutional investors around the offer date outperform their benchmark portfolios in the year following the issue. To address this first question, five operating ratios are calculated for the year prior to going public (year -1), the year of the IPO (year 0), and for the three years following (years +1, +2, +3). If banks go public during a period of unsustainable profitability, each operating performance ratio should decline relative to pre-IPO levels. A subsequent decline in operating performance would support the windows-of-opportunity theory. The second research question examines the relationship between bank ownership by insiders, institutional and large block shareholders and post-IPO operating performance. The important question is: do high levels of ownership by these investors result in superior operating performance relative to the entire industry? The third empirical question investigates whether banks manage their earnings by under-reporting loan loss provisions prior to going public. The final research question examines whether IPO banks use their newly raised capital to over-emphasize loan growth at the expense of greater loan default risk and lower subsequent earnings.

The following section discusses pertinent issues and provides a brief review of the literature. The next section explains the four hypotheses that are tested. Subsequent sections discuss the study group, variables, and methodology used in the study, as well as the results and conclusions


Since the introduction of Jensen and Meckling's (1976) agency cost theory of financial structure, the relationship between ownership and performance continues to be a vexing, and largely, unresolved issue despite the volume of theoretical and empirical literature. …

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