Researchers recently examined the initial public offering (IPO)

Question

Researchers recently examined the initial public offering (IPO) -- a private firm's first sale of stock shares to the public -- of firms listed on Kenya's Nairobi Stock Exchange (NSE) between 1994 and 2008. During this time, the number of IPOs listed per year varied from zero to four. The researchers wanted to examine the extent to which four different variables -- investor sentiment, firm size, board prestige, and firm age -- affected the IPO stock share price, which is set by the firm. They hypothesized that all four variables would show a strong positive correlation with this IPO asking price. However, after examing the firms listed, they were surprised to find that none of the variables showed a strong positive correlation with IPO pricing, and in fact investor sentiment and board prestige both showed a strong negative correlation.

The researcheres also discovered that nearly all of these IPOs were underprised by an average of 50 percent, which is to say the IPO share prices were about half of what the share prices were at the close of the first day of trading. Such underpricing constitutes a loss to the listed firm because the firm could have immediately raised more money with a higher price. The researchers noted that firms should take care to set an IPO price low enough to capture investor interest but high enough to generate sufficient capital for the firm.

nisen20 · Accepted Answer

Official Explanations for Q2 and Q3 are inconsistent:

Q2(1): IPOs of firms with prestigious boards were more likely to be underpriced than those of other firms.
OE: Board prestige is one of the four variables examined by the researchers for any correlation they may have with IPO pricing. The discussion of underpriced IPOs does not involve these variables, and while board prestige is found by the researchers to be negatively correlated with IPO price, it cannot therefore be inferred that a lower IPO price has any correlation with an IPO being underpriced.
The correct answer is Not inferable.

Q3(1): The board of Safaricom was likely considered more prestigious than that of Co-Operative Bank at the time of their IPOs.
OE: The passage indicates that the researchers found a strong negative correlation between board prestige and IPO price (lines 14-19). In other words, the lower the IPO price of a firm, the more prestigious that firm's board is likely to be. Looking at the table of Kenyan IPOs for 2008, Safaricom had an IPO price of 5.00 Kenyan shillings and Co-Operative Bank had an IPO price of 9.50 shillings, suggesting that Safaricom's board was more prestigious than Co-Operative Bank's.
The correct answer is Supported.

Q3(3): When their IPO prices were set, investor sentiment was likely more favorable toward Kengen than toward Scangroup or Eveready.
OE: The passage indicates that the researchers found a strong negative correlation between investor sentiment and IPO price (lines 14-19). In other words, the higher the IPO price of a firm, the lower investor sentiment toward that firm is likely to be. Looking at the table of Kenyan IPOs for 2006, Kengen had an IPO price of 11.90 Kenyan shillings, whereas Scangroup (10.45) and Eveready (9.50) had lower IPO prices, suggesting that investor sentiment was likely less favorable toward Kengen than toward either Scangiroup or Eveready.
The correct answer is Not supported.

Do the GMAC guys have any standard when creating questions?

KarishmaB · Answer

Question 3.

For each of the following statements, select Supported if the statement is supported by the information provided about NSE IPOs. Otherwise select Not supported.

Given: ...they were surprised to find that none of the variables showed a strong positive correlation with IPO pricing, and in fact investor sentiment and board prestige both showed a strong negative correlation.
So board prestige and investor sentiment had a strong negative correlation with IPO pricing but the other two variables had no defined correlation.

The board of Safaricom was likely considered more prestigious than that of Co-Operative Bank at the time of their IPOs.

Safari: 5
Co-Operative Bank: 9.5

Since board prestige has a strong negative correlation with IPO pricing, we can say that likely Safari has more prestigious board. Mind you, we are just talking about likelihood. Other variables could have a role to play too.

ANSWER: Supported

Kenya Re and Eveready were approximately the same size firms at the time of their IPOs.

Size of the firm is not correlated with IPOs pricing.

ANSWER: Not Supported

When their IPO prices were set, investor sentiment was likely more favorable toward Kengen than toward Scangroup or Eveready.

Kengen: 11.9
Scangroup: 10.45
Eveready: 9.5

Since investor sentiment has a strong negative correlation with IPO pricing, a high IPO pricing of Kengen indicates lower investor sentiment, not higher.

ANSWER: Not Supported

KarishmaB · Answer

The questions are fine.

Question 1.

The discussion of the researchers' study of Kenyan IPOs refers to "board prestige" primarily to

help explain why investor sentiment toward some firms is sometimes very low
caution that some variables should not be considered accurate predictors of IPO pricing
introduce one of the variables whose relationship to IPO pricing surprised the researchers
point to one of the attributes firms often used to generate investor interest in their IPO
demonstrate that some attributes of a firm are often negatively correlated with the firm's IPO price

Note what the question asks - why did the author's discussion refer to board prestige - so why did the author mention it? Not why someone could have mentioned it. Note what the author writes about board prestige:
 However, after examing the firms listed, they were   surprised to find   that none of the variables showed a strong positive correlation with IPO pricing,   and in fact  i nvestor sentiment and board prestige both showed a strong negative correlation.

So he used board prestige to show us something that was surprising and unexpected. One would expect that if board of a company is considered prestigious, the company will be more valued and certainly not less valued!

That is why (C) is correct.

(E) is not correct. The author does not use it to demonstrate that some attributes of a firm are often negatively correlated with the firm's IPO price.
Think about it - it does demonstrate that some attributes of a firm could be negatively correlated with the firm's IPO price but the author does not use it to demonstrate this.
If he were to do use it to demonstrate what is given, he would say something like: "... and there are some factors which could be negatively correlated with the firm's IPO price. One of them is board prestige... etc." But that is not how he proceeds at all.

Answer (C)

Question 2.

For each of the following statements, select Inferable if the statement is reasonably inferable from the information provided about the NSE IPOs. Otherwise select Not Inferable.

IPOs of firms with prestigious boards were more likely to be underpriced than those of other firms.

Given: The researchers wanted to examine the extent to which four different variables -- investor sentiment, firm size, board prestige, and firm age -- affected the IPO stock share price, which is set by the firm. They hypothesized that all four variables would show a strong positive correlation with this IPO asking price. However, after examing the firms listed, they were surprised to find that none of the variables showed a strong positive correlation with IPO pricing, and in fact investor sentiment and board prestige both showed a strong negative correlation.

Board prestige has a strong negative correlation with 'IPO asking price'. Between 2 companies A, and B, if all is equal but A has a more prestigious board, it will likely ask for a lower IPO price, say 9.5 versus 10 asked by company B.

This is not the same as underpricing which is a factor of the market. The market may decide that company A's price is actually 15 and that of company B is actually 13.5. Underpricing does not depend on these 4 factors. Almost all companies were underpriced by about 50%.

ANSWER: Not Inferable

Firestone East Africa set its IPO price slightly lower than it should have.

Firestone East Africa set its IPO price at 35.5 but market priced it at 35 so it set its price slightly higher than it should have.

ANSWER: Not Inferable

At least one of the firms examined by the researchers did not have an underpriced IPO.

Correct. We have the answer right here: Firestone East Africa
Its IPO was slightly overpriced.

ANSWER: Inferable

Apt0810 · Answer

1)C,introduce one of the variables whose relationship to IPO pricing surprised the researchers,since it gives a surprise to the researchers that why underpricing was there and what are parameters to compelete the study.

2)a)No,since with prestigious board negative correlation was there and it was not increasing the likelihood
b)No,it set a higher price
c)Yes,Firststone and Mumias sugar are exceptions

3)a) Supported beacuse safaricom had more underpricing
b)Not supported since there is nothing mentioned about firm size
c)Not supported since that might be less supported and effect could be from board prestige

Posted from my mobile device

bM22 · Answer

1. The discussion of the researchers' study of Kenyan IPOs refers to "board prestige" primarily to

A. help explain why investor sentiment toward some firms is sometimes very low
B. caution that some variables should not be considered accurate predictors of IPO pricing
 C. introduce one of the variables whose relationship to IPO pricing surprised the researchers
 D. point to one of the attributes firms often used to generate investor interest in their IPO
E. demonstrate that some attributes of a firm are often negatively correlated with the firm's IPO price

Correct Answer - C,
 Explanation - as mentioned in the para: They hypothesized that all four variables would show a strong positive correlation with this IPO asking price. However, after examing the firms listed, they were surprised to find that none of the variables showed a strong positive correlation with IPO pricing, and in fact investor sentiment and board prestige both showed a strong negative correlation.

2. For each of the following statements, select Inferable if the statement is reasonably inferable from the information provided about the NSE IPOs. Otherwise select Not Inferable.

1.  No  - since as we saw, the board prestige had a negative effect on pricing.
2.  No  - its the opposite as we can infer from the last row of the table.
3.  Yes  - Firestone, and Mumias Sugar have -1.41 and 0.00% underpricing.

3. For each of the following statements, select Supported if the statement is supported by the information provided about NSE IPOs. Otherwise select Not supported.

1.  Supported , as we can infer from the table row of Safaricom and Co-operative bank and the information in the passage above, that the mentioned statement is supported by the information.
2.  Not Supported,  nothing is mentioned in the passage w.r.t firm size and its effect of the pricing of IPO's.
3.  Not Supported,  as we cannot explicitly infer, if it was actually from the investor sentiment or other factors like board pricing (which is actually mentioned).

Suryanshi · Answer

Can someone please explain, how the below statements have the opposite answers? Either both should be Yes( and in my opinion Yes should be the answer ) or both should be No.

"IPOs of firms with prestigious boards were more likely to be underpriced than those of other firms"

"The board of Safaricom was likely considered more prestigious than that of Co-Operative Bank at the time of their IPOs"

bM22 · Answer

Hi  Suryanshi ,

1. The answer to :"IPOs of firms with prestigious boards were more likely to be underpriced than those of other firms" would be  No , as its mentioned in the IPO Pricing passage: "However, after examing the firms listed, they were surprised to find that none of the variables showed a strong positive correlation with IPO pricing, and in fact investor sentiment and board prestige both showed a strong negative correlation."
 => the board prestige had a negative effect on pricing.

2. The answer to : "The board of Safaricom was likely considered more prestigious than that of Co-Operative Bank at the time of their IPOs" - this would  true , i.e supported as asked in the question, since we can infer from the table row of Safaricom and Co-operative bank and the information in the passage above, that the mentioned statement is supported by the information.

Hope it helps.
thanks.

Suryanshi · Answer

Hi bm2201,

Thank you for the explanation. Really appreciate that. But I am still not able to understand and here is the reason.

What I deduce from below line ""However, after examing the firms listed, they were surprised to find that none of the variables showed a strong positive correlation with IPO pricing, and in fact investor sentiment and board prestige both showed a strong negative correlation" is that since board prestige has a negative correlation with IPO pricing, so if board prestige is high, IPO pricing will be low and this is what sentence "IPOs of firms with prestigious boards were more likely to be underpriced than those of other firms" says.

Seeing the data of Co-operative bank and Safari bank, we were able to relate the difference in their prices at the day start and day end with board prestige. Safaricom was more undervalued and therefore it was likely that its board had more prestige than co-operative bank's. That's why the answer for this statement "The board of Safaricom was likely considered more prestigious than that of Co-Operative Bank at the time of their IPOs" was Yes.

Based on above reasoning according to me answer to the first statement should also be Yes. Now, I know there must be big loophole in my understanding somewhere. Would really appreciate if you can pinpoint the same.

maikikiuu · Answer

I agree with the OA that the  first answer of Q2 should be no; but it is the answer in Q3 that is questionable .

According to the prompt, there are 2 factors that negatively relate to asking price (lower asking price --> more likely underpriced):
1. investor sentiment
2. prestigious board
The board itself will not be able to affect the asking pricing alone - one must consider the investor sentiment. Therefore, the board itself is not an indicator of the asking price and the answer should be no.

However, the first OA for Q3 contradicts such logic, for it assumes that the board is the only factor affecting asking price (thus the underpricing). What if the primary reason for Safaricom's underpricing is investor sentiment while the primary reason for Co-Operative Bank's underpricing is the board?

xiafan0521 · Answer

I finally understand. The sentiment and broad prestige only affect the set of the IPO price, which do not affect the first day closing price. Therefore, the lower the IPO price have nothing relate to the first day closing price, and the under price percentage.

Rita77 · Answer

Yes. PRICING and UNDERPRICED are two different concepts. Here PRICING refers to the absolute price number.

Elite097 · Answer

QUESTION 1- SOLUTION

The discussion of the researchers' study of Kenyan IPOs refers to "board prestige" primarily to introduce one of the variables whose relationship to IPO pricing surprised the researchers.

Let's break down why this is the best choice by analyzing the relevant parts of the passage and comparing the provided options.

Passage Analysis
Researchers' Hypothesis: They hypothesized that four variables (investor sentiment, firm size, board prestige, and firm age) would show a strong positive correlation with IPO pricing.
Findings: Contrary to expectations, none of the variables showed a strong positive correlation. Investor sentiment and board prestige showed strong negative correlations.
Surprise Element: The researchers were surprised by these results.

Option Analysis
A. Explain Low Investor Sentiment: The passage does not delve into explaining why investor sentiment toward some firms is sometimes very low. Therefore, this option is not supported by the passage.
B. Caution About Predictors: While the passage does indicate that the researchers were surprised by the lack of strong positive correlation, the primary focus on "board prestige" is to highlight the unexpected finding rather than to caution against using it as a predictor. This is more about the surprising results rather than a direct caution.
C. Introduce Surprising Variable: The mention of "board prestige" is to highlight one of the variables that showed a surprising strong negative correlation with IPO pricing. This fits well with the part of the passage discussing unexpected findings.
D. Generate Investor Interest: The passage does not suggest that firms use "board prestige" to generate investor interest. Rather, it mentions the variable in the context of its correlation with IPO pricing.
E. Negative Correlation Demonstration: While the passage mentions the negative correlation, the primary purpose is to highlight the surprising nature of this finding rather than to demonstrate a general principle.

Conclusion
The passage introduces "board prestige" to illustrate the unexpected nature of the research findings regarding its relationship with IPO pricing. Therefore, the best answer is:

C. Introduce one of the variables whose relationship to IPO pricing surprised the researchers.

ManishaPrepMinds · Answer

1.)

The passage introduces board prestige as one of four variables that  unexpectedly showed negative correlation  with IPO pricing, contrary to the researchers' hypothesis of positive correlation.

Answer: C - introduce one of the variables whose relationship to IPO pricing surprised the researchers

2).

For each of the following statements, select Inferable if the statement is reasonably inferable from the information provided about the NSE IPOs. Otherwise select Not Inferable.

a) IPOs of firms with prestigious boards were more likely to be underpriced than those of other firms.  
Board prestige affects IPO asking price (set by firm)
Underpricing = market gap between asking price and trading price
underpricing depends on  market. 
 Answer: Not Inferable

b) Firestone East Africa set its IPO price slightly lower than it should have.  
 Firestone shows -1.41% underpricing, meaning it was actually overpriced (first day price was lower than IPO price).  
 This suggests the IPO price was slightly high, not low. 
  Answer: Not Inferable

c) At least one of the firms examined by the researchers did not have an underpriced IPO.  
 Firestone East Africa   IPO was slightly overpriced.  
  ANSWER: Inferable

3).   
 a)  The board of Safaricom was likely considered more prestigious than that of Co-Operative Bank at the time of their IPOs.
 Board prestige has strong negative correlation with IPO price 
Safaricom IPO price: 5 
Co-Operative Bank IPO price: 9.5 
Lower IPO price-> Higher prestige 
Safaricom's lower price suggests  higher board prestige 
 Answer: Supported

b) Kenya Re and Eveready were approximately the same size firms at the time of their IPOs.  
 Both had the same IPO price (9.5), but we cannot infer firm size from price alone. 
  Answer: Not Supported

c) When their IPO prices were set, investor sentiment was likely more favorable toward Kengen than toward Scangroup or Eveready  
Since investor sentiment showed  negative correlation  with IPO price, more favorable sentiment would correlate with  lower  IPO prices. Kengen (11.9) had a higher IPO price than both Scangroup (10.45) and Eveready (9.5), suggesting sentiment was likely  less  favorable toward Kengen.

Omi007 · Answer

Hi, I'm having trouble with this explanation. I know there is negative correlation between Board Prestige and IPO pricing, but there are 3 more factors that can affect the IPO price. How can we confidently say that Board Prestige was the reason for lower price of Safari? it can be opposite and still the IPO price of safari be less than Co- Op Bank. Am I missing something? could you please help with this.

ManishaPrepMinds · Answer

You're absolutely right to question the certainty.

However, since  Board Prestige has a strong negative correlation with IPO pricing , and  Safaricom’s IPO price is lower than Co-Op Bank’s , it is  likely  (though not certain) that Safaricom had a more prestigious board.

We're not ruling out other factors — just pointing out what is  most likely  based on the data trend.

Aashimabhatia · Answer

The passage says:  “After examining the firms listed, they were surprised to find that none of the variables showed a strong positive correlation with IPO pricing, and in fact investor sentiment and board prestige both showed a strong negative correlation.”  
 What this means is that when board prestige and investor sentiment go up, the  IPO asking price  tends to be lower. That’s about the price at which shares are initially offered, not about how the market reacts afterward. 
 Now,  underpricing  is different. Underpricing is the percentage difference between the IPO offer price and the first-day closing price. So, even if a prestigious board sets a lower asking price, the stock can still end up being underpriced more or less depending on the day-one market response. 
 That’s why in  Question 2 , the focus is on underpricing. Prestigious boards were linked to IPOs that were more likely to be underpriced compared to others.
In  Question 3 , the focus is on the IPO asking price itself. Safaricom’s board was considered more prestigious than Co-operative Bank’s, and indeed its IPO price was lower, which supports the negative correlation mentioned in the passage. 
 So there’s no contradiction. Question 2 is about how the market behaved after listing, while Question 3 is about the pricing decision at the time of the IPO.

SaumyaKhare · Answer

@Bunuel - Is it humanly possible to solve these questions in exam in such a tight environment ? I am asking as I took more than 12 mins to solve this

Com pany	IPO year	IPO share price (\(P_0\))	First day closing price (\(P_1\))	Percent underpricing*
Co-Operative Bank	2008	9.5	10.45	10
Safaricom	2008	5	7.35	47
Kenya Re	2007	9.5	16	68.42
Access Kenya	2006	10	13.45	34.5
Eveready	2006	9.5	11	15.79
Scangroup	2006	10.45	15	43.54
Kengen	2006	11.9	40	236.13
Mumias Sugar	2001	6.25	6.25	0
Athi River Mining	1997	12.25	12.6	2.86
Kenya Airways	1996	11.25	12.55	11.56
Rea Vipingo	1996	10.5	12	14.29
National Bank of Kenya	1994	10	26	160
Firestone East Africa	1994	35.5	35	-1.41

Researchers recently examined the initial public offering (IPO)

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	help explain why investor sentiment toward some firms is sometimes very low
	caution that some variables should not be considered accurate predictors of IPO pricing
	introduce one of the variables whose relationship to IPO pricing surprised the researchers
	point to one of the attributes firms often used to generate investor interest in their IPO
	demonstrate that some attributes of a firm are often negatively correlated with the firm's IPO price

Supported	Not Supported
		The board of Safaricom was likely considered more prestigious than that of Co-Operative Bank at the time of their IPOs.
		Kenya Re and Eveready were approximately the same size firms at the time of their IPOs.
		When their IPO prices were set, investor sentiment was likely more favorable toward Kengen than toward Scangroup or Eveready.

GMAT Multi-Source Reasoning (MSR) Questions

Researchers recently examined the initial public offering (IPO)

Prep Toolkit

615 to 715 in 15 Days (Ria's Strategies)

More than Quant/Verbal Abilities: Speed vs. Accuracy

745 with Only Self-Prep and GMAT Club

From 555 to 765: 210-point Improvement

Perfect 805 Score Debrief by Julia

My Rewards