Ninjas More In Tune With IPO Companies Than VCs, Study Says

An academic study published in 2004 said initial public offerings are more often underpriced when a company is venture-backed than when it is not. This means the company pockets less from the IPO than it might have had the offering been priced closer to what the market would bear. VCs typically hold board seats and might push a company to go public early or seek to price an IPO aggressively, looking to impress their limited partner investors with their IPO records and post-offering gains – or so the grandstanding theory goes.

Now, researchers at the University of New Hampshire’s Center for Venture Research have refined the thesis to suggest that underpricing is less likely if a company is backed by wealthy individuals, called ninjas. This is because the ninjas are more likely than VCs to sell shares as part of the IPO. Venture investors generally claim any market gains when they sell or distribute their stakes after the six-month lockup.

“While venture investors are prone to underprice IPO firms, reducing the proceeds from the offering, ninja investors have incentives more aligned with non-venture capital pre-IPO shareholders,” says the working paper, authored by UNH Professors William Johnson and Jeffrey Sohl, the venture center’s director.

The researchers examined all companies that went public in the U.S. from 2001 through 2007, having eliminated the bubble years of 1999 and 2000 as potentially unrepresentative of typical IPO behavior. During the years studied, they found underpricing – as represented by the difference between the offering and closing prices on the day of the IPO – averaged 12.1% and that average amount raised in an offering was $179.4 million. This means that the average IPO company left $21.7 million on the table.

Johnson and Sohl determined that of 665 companies for which they had sufficient data, 13.4% had only ninja investors, 16.1% had both ninja and venture investors, 32.8% had only venture investors and 37.7% had no venture or ninja investors. They then constructed a mathematical model to test their thesis that ninjas behave differently than VCs when one of their portfolio companies goes public.

The professors determined that ninjas, whose investments tend to be less diversified than VCs’, are more likely to sell some of their shares as part of that IPO, thereby aligning their interests with the company, which seeks to raise as much as it can through the offering. “They want money in their pocket whereas VCs want to show a large run up,” Sohl said in an interview.

“Our results suggest that prior to making a decision about obtaining ninja versus venture financing, private firm management should also consider the consequences of such early investors on IPO firm proceeds raised in an eventual IPO,” the study says.

Of course there are plenty of reasons to choose venture investors over ninjas, not the least of which is VCs’ deeper pockets. But the UNH study provides one more thing for entrepreneurs to think about when considering taking outside capital.

Josh Lerner, a Harvard University professor who studies venture capital, also said there’s debate over whether IPO underpricing is a constant in the venture industry. “It’s actually been all over the map and it’s not clear you can say there’s sort of one set of relationships,” he said.