Another drama filled week has come and gone, and I'm starting to look at even more specific sources for my research study. The big drama in the coming week is if i'm ever going to be able to decipher a research paper that is super useful to my methodology, but super esoteric for me right now.
Anyways, as annotated bibliographies are due in the coming week, and the ever present literature review makes itself moe prominent, it's time to create an outline for the literature review. If you didn't remember, my subtopics were (change a bit since I shifted my topic a little): Industry Analysis, Valuation Technique Analysis, Comparable Firm Multiple Application.
Subtopic 1: Industry Analysis
The basic premise of Finance, and analyzing the stock market is to be able to determine how a firm is performing, and in turn, whether to invest in it. It is essential to first narrow down the focus of the literature review to a specific industry sector of finance, or a specific type of event in finance, since if we looked more generally at every industry, we often wouldn't be able to draw conclusions based on the incredibly diverse nature of different institutions and sectors.
Anyways, as annotated bibliographies are due in the coming week, and the ever present literature review makes itself moe prominent, it's time to create an outline for the literature review. If you didn't remember, my subtopics were (change a bit since I shifted my topic a little): Industry Analysis, Valuation Technique Analysis, Comparable Firm Multiple Application.
Subtopic 1: Industry Analysis
The basic premise of Finance, and analyzing the stock market is to be able to determine how a firm is performing, and in turn, whether to invest in it. It is essential to first narrow down the focus of the literature review to a specific industry sector of finance, or a specific type of event in finance, since if we looked more generally at every industry, we often wouldn't be able to draw conclusions based on the incredibly diverse nature of different institutions and sectors.
- Batov et. al shows the vast differences in how Internet and Non-internet firms work. When looking at the value of non-internet versus internet firms, it appears as though non-financial variables play a much larger role in determining the value change of an internet firm as opposed to a non internet firm
Premise 1: There is an increase in personal startups throughout the country
Premise 1--> Conclusion 1: An increase in succesful companies can be expected within the future
Premise 2: Succesful companies want to become more profitable
Premise 3: To become more profitable, an increase in capital funding is needed
Premise 4: IPOs provide capital funding for companies
- IPO: Initial Public Offering is when a company first offers its shares to the public, and allows itself to be traded publicly on the market, allowing the company to gain capital when shares are first bought for the company
Conclusion 1+Premise 2,3,4-->Conclusion 2: IPOs are bound to increase and become more important in the future. They are relevant.
Counterargument: Private equity funding for startups is also an option, and also avoids litigation that IPOs have to go through. This could also be popular
- Even if is popular, it is difficult to study this, as private equity funding means that companies are not required to release financial statements, etc... Even if were to increase, would be of no use to us
Premise 5: Many of these new startups will be tech-oriented startups
Premise 5+Conclusion 2--> Conclusion 3: Tech. IPOs are bound to increase in the future, and become more relevant to society.
Premise 6: IPOs carry many anomalies associated with them
- Ritter and Rajan both note that IPOs are underpriced relative to their first day closing market price. Something which is odd, considering that underpricing the IPO causes a decrease in capital funds for the company issuing the IPO in the first place.
- Zheng and Ritter disagree that IPOs underperform after they have initially taken place. Zheng argues that after accounting for several financial variables, and comparing the IPOs to other growth matching firms, they did not appear to significantly underperform, as Ritter claimed they did (Ritter claims that their return on equity (total investment) is lower than other firms in the same industry).
Premise 7: The Causes of these anomalies, as well as their impact on the industry market for the IPO are debated even today
- Damodaran and Ritter have differing views of valuation models that can be used for IPOs valuation. Researchers Fama and French revised a previous model to a newer model in 2014 to include additional factors when valuing young companies, typical in IPOs.
Premise 6+7--> Conclusion 4: Research concerning IPOs is up till now incongruous.
Conclusion 3+4--> Conclusion 5: Tech IPOs are an interesting area to focus research on
*I need to find additional reasons for narrowing tech IPOs down to Social Media IPOs (perhaps the increased prevalence of them, as well as the additional anomalies that they possess over other internet/software IPOs in addition to the fact that they are not really researched at all).
Subtopic 2: Valuation Technique Analysis
After focusing on the section that I will analyze, I need to answer what I will do in that specific section. The principal question of finance is, as stated before, how much is a company worth, and is it worth investing in? In order to determine this, individuals attempt to value companies using different techniques, which I discuss here.
Premise 1: There are two different types of valuation techniques: Comparable and Intrinsic
- Definition: Comparable Firms Approach attempts to use certain financial variables, indicative of a companies performance, to compare a companies value to other values within the industry, and determine if a company is overpriced or underpriced relative to other companies witihn the industry
- Downsides (Damodaran): Does not determine if the company is an "absolute" good investment. Other companies in the industry could have inflated prices as well due to, as Rajan puts it "overoptimism"
- Definition: Intrinsic Valuation attempts to determine the "true worth" of a company through a multitude of methods, more objective than looking only at the specific industry the company is in
- Looks at financial variables such as risk, and the amount of expected cash to be received in the future (future cash flows). Will describe Discount Cash Flow Model: Where the amount of money expected in the future is "discounted" at an interest rate to a present value, which is the calculated present value of the stock.
- Drawbacks: Hard to determine the future value of a stock (Ritter)
Premise 2: When analyzing Growth firms, intrinsic valuation models tend to fail
- Growth Firm: A firm whose value is primarily placed on how much it will grow/ expand in the future
- Damodaran/ Ritter: Both authors, in their individual research papers argue that because growth firms do not have much historical data pertaining to their finances, it is difficult to predict what future cash flows could be
Counterarguments: Damodaran argues that comparable multiple firms have many of the same issues that intrinsic valuation models have, and that they rely on the same fundamental assumptions. This could be problematic since often growth firms don't have the same business plans, making comparison in cases with little comparable firms difficult and inefficient. Liu et. al also backs this up, finding that many of the dot-com companies had horrible valuations when using comparable multiple valuation methods
- My response does not have full sources yet, though I would suspect that I would find a source discussing how many Social Media IPOs are venture capital backed, and that they would not really issue an IPO unless they were already succesful, which would nullify any of the arguments made by Damodaran and Liu et. al because they apply to incredibly young firm in the first place.
Premise 1+2-->Conclusion 1: It is best to use a comparable firm approach to valuing Social Media IPOs.
Subtopic 3: Comparable Firm Multiple Application
Now that I have narrowed down the topic to valuing Social Media IPOs with a comparable firm approach, we need to find a specific focus with which to apply the multiples in order to arrive at a research question.
Premise 1: There are common anomalies associated with the Price/Earnings multiple outside of IPOs
- Anderson explains the fact that stocks with low multiples tend to overperform stocks with higher multiples over the long run. He suggests a method for recalculating Price/Earnings to strengthen this effect
Premise 2: This effect has not yet been researched in in the context of Social Media IPOs
Premise 1+2--> Gap 1: Does the price to Earnings effect take place in Social Media Firms following their IPOs?
Premise 3: There is disagreement over the best multiple in different industries
- Gray et. all and Dittman disagree over the most overall effective valuation method. Gray et. al claims it as Total Enterprise Value/ Earnings before taxes..., while Dittman claims it as the Price/Earnings Ratio.
Premise 4: The Price/Earnings Ratio is more effective in valuing IPOs using forecasted earnings rather than historical earnings
- Studies by Moonchul et. al and Liu Jing agree with this, and it is generally agreed upon in the industry
Premise 5: Neither valuations have been performed on Social Media IPOs
- Bring up how Social Media IPOs are different enough from normal IPOs to warrant an examination of this
Premise 3+4+5--> Gap 2: What is the most effective variation of a multiple to use when valuing Social Media IPOs, and does trailing earnings ever become more effective than forecasted earnings in valuing a Social Media Firm.
Research Question: Post IPO, which comparable firm multiples are most effective in valuing Social Media Firms, and which anomalies still hold in this market?
WHOOOOOOOAAAAAAH
THAT WAS LONG. Hope you're still with me! (1485)
Akash
Akash,
ReplyDeleteBaller outline. Overall, I think you need to make sure to do a clearer job of explaining and drawing out your connections because it is a little confusing for someone who doesn't know the topic as well as you. I think you need to expand on the internet vs. non-internet company thing because that is kinda confusing. But generally you did a good job with premises and connecting everything. Also good job with definitions and being clear. I think you have a good gap and are going in the right direction for a great lit review.
Hey Akash! It's my first time on your blog, and you definitely have done a lot of research because there are so many different terms where I'm like ...what? (That's a good thing, it just requires MOE explaining I guess). I think you have a really thorough outline and you're pretty much ready to write your entire lit review. I don't really understand your rebuttal to counterargument one because it just sounds like you're trying to say it's difficult to study and it's not useful? I don't really see the connection. Also for your significance, you talk a lot about how startups are increasing so IPOs are increasing so it's relevant, but you should expand MOE on what effects it has for startups or for people who choose to invest in them. Also, what is your Batov et al source, like how is internet v. non internet firms tie in to your topic? (I tried to google what that meant, but it gave me nothing so v. confused). Also, how are IPOs issued and who issues them? Also, for MOE reasons for narrowing down IPOs to social media IPOs, maybe looking at the effects of IPOs on society, on people, on companies etc, can help with finding a reason for that. Also, expand on the drawbacks of intrinsic valuation if you're gonna say that comparable valuation is MOE reliable.
ReplyDeleteGood job on finding multiple gaps in the research. That part was pretty clear.
All in all, you have a really good outline and I know that you know what you're talking about, but you don't explain things enough and the reader doesn't really understand all the stuff you're trying to say. Just make the links between everything explicit or explain it MOE. (Or maybe I'm stooooopid). Good job and good luck on finding MOE sources!
I think you're going to need to do MOE work in order to make this lit review truly lit.
ReplyDelete1. How do you intend to prove that tech startups are one prominent type of company that makes use of IPOs?
2. I remember you saying there was something unique about social media IPOs -- was it that an over-valuation did not wreck them? Am I making this up? If not, where does that info fit in?