Finance Report: Alibaba IPO Performance and Capital Structure

This report provides a comprehensive analysis of the Alibaba IPO, addressing key questions related to its initial public offering. It begins by assessing the $68 per ADS issue price, evaluating the investment potential based on the company's financial performance and market position. The report then examines the IPO's short-term and long-term performance, comparing it to average IPO performance documented in empirical studies. It delves into the factors influencing Alibaba's IPO performance, including information asymmetry and ex-ante uncertainty. Finally, the report discusses the evolution of Alibaba's capital structure since its IPO, analyzing it in light of the main theories of capital structure, such as the net income approach and the traditional approach, using the 2017 annual report for reference. The analysis aims to provide a detailed understanding of Alibaba's financial journey since its IPO.

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Running Head: IPO FINANCE
IPO Finance
Student’s Name
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IPO FINANCE
Question1
Assess Alibaba’s issue price of $68 per ADS. Price?
In September 2014, Alibaba Group of Holdings joined the New York Stock Exchange
and became one of the largest Initial Public Offer (IPOs) to ever exist in history. In this year, the
company grew in terms of Gross Merchandise where the Renminbi (RMB) increased from 1.08
trillion in 2013 to 1.68 trillion in the year 2014. This was a 50% growth. As a result of that
growth, Alibaba dominated 80% of the market share in Chinas e-commerce market and online
shopping.
Alibaba Company had more debt value which made the market value higher. In the year
2000 in the month of January, the company (Alibaba) got a boost of US20 million from
Softbank. The step of partnering with Softbank was made so that Alibaba could get a better
platform to expand and revive their company. The revival of the company played great a role in
delivering more value in the global trade.
In increase in debts, there is a reduction in the cost of capital. This made the value of
Alibaba shares to increase. When the value increased, the cost of the shared went beyond the
normal market cost.
The moment a firm realizes that it needs more funding and it does not need to secure
more loans so that the value of the shares can not reduce, it opts to go public and sell some of its
securities. This decision of selling some of the shares helps in maximizing the value of the firm.
When this decision is made, the first owners still want to have the ownership of the company
making the security value price high. This reason played a great role in the Alibaba share to cost
UD$68

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Would you have invested in Alibaba at this price?
I would have invested in Alibaba firm. This is as a result of the trust that he had
developed between his customers and banks. The moment a scandal happened in 2012, where
customers lost large amounts of money when they were buying goods through his platform, he
compensated them. Trust is the best important aspect to consider when it comes to investing.
Furthermore, the company had grown from a very humble background to a very high
point outdoing all the other companies e.g. Google. In the past, the company had done so well
mostly when selling alibaba.com shares that were sold double the standard market price. This
gives limelight that Alibaba securities could still succeed.
Question 2
Based on a visual examination of the chart above, how does the performance of the Alibaba IPO
compare with average IPO performance documented by past empirical studies?
i. in terms of the short-term performance of the Alibaba IPO?
ii. and over the longer term?
(i) In terms of the short-term performance of the Alibaba IPO?
In the first year when Alibaba securities were available to the public, the price slightly increased
and later reduced to a lower value. This behavior has to be seen in every new security in the
market. At first, people will evaluate the company’s history and if the past image is bad, the
shares price will reduce below the normal price margin. Investors tend to conclude that the

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company might be set to fail arguing that there is no clear financial history. Later after the firm
operates for quite some time, people will develop trust because they have a past to look on.
(ii) And over the Longer term?
Alibaba securities became stable after its price dropped in the first year in the Initial Public
Offer (IPO). The price of one security increased drastically to over UD$200. This is as a
result of people having trust in the company and evaluating the financial history of
Alibaba.com shares which are from Alibaba Group of Holdings. At one point the company
had a blow during the 2012 scandal where customers lost huge amounts of money but Alibaba
acted so fast to compensate them. The company developed from a very humble background to
a very high rank becoming one of the largest companies in IPO. In every company, the first
year’s performance is very worse but afterward, it gains momentum. This mostly happens
after 1-3 financial years.
Past studies have suggested a number of explanations for short-run under-pricing and
long-run underperformance of IPOs. Discuss the ones which you think are relevant to
Alibaba’s case?
(i) Theories of short-run underpricing.
Short run underpricing in POA happens as a result of information asymmetry. This is the
situation where one group of people have very important information about the fair worth of a
firm’s security than other groups.
(ii) Winners curse hypothesis

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This works hand in hand with asymmetry theory. According to the theory, there are two main
groups of investors, the informed one and the uninformed one. The informed ones only bid for
those securities that have low price while the uninformed investors buy any security regardless of
being offered at a high market price or low price. During bidding of shares, if the price is high,
only the uninformed investors will be disadvantaged but if the price value is low and both
investors bid, both investors will be equal when it comes to returns.
(iii) Ex-ante uncertainty hypothesis.
This hypothesis mostly argues on the past market problems that might have happened in
the company. If a company has had past uncertainties, there is a more possibility of under
pricing of shares. The moment investors become aware of the past problems that the
company faced for example scandals; there is a higher probability that the shares will have
a low price.
Question 3
In the light of the main theories of capital structure, provide a discussion of the evolution of
the capital structure of Alibaba since its IPO. You will find the Annual Report 2017 helpful
in answering this question.
(i) The net income Approach.
According to this approach, for a company to increase its security value, it has to reduce capital
cost. The market price of one share is maximized when the cost of capital is very low. When
Alibaba borrowed more money; debt capital increased reducing the cost of capital. When the
cost of capital is reduced, the value of a firm’s security increases. Alibaba had debts in Softbank.

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(ii) Traditional Approach.
This approach explains the idea that debts increase the market value of securities after lowering
capital cost. Debt level reaches a certain point where the market value decreases and the cost of
capital increases. The value of Alibaba increases after borrowing resources but after attaining a
certain point the debt climax was attained. At this juncture, the cost of capital became more
forcing the market value to drop.