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Medibank Private float offers retail investors an early Christmas gift

Finance Minister Mathias Cormann says Medibank Private shares are expected to cost retail investors around $1.55-$2 per share. Dan Himbrechts/AAP

The privatisation of Medibank Private will be complete next Tuesday when the company lists on the Australian Securities Exchange. That’s exactly one month before Christmas Day and all indications suggest retail investors who applied for shares in the public offer are in for a nice little present.

While the wide indicative price range for retail investors ($1.55 to $2.00) has been criticised, a key guarantee provided in the prospectus is they will not pay more than $2.00 per share. This guarantee exists regardless of the price currently being determined for institutional investors through the so-called book-building process.

Finance Minister Mathias Cormann has announced that, due to strong demand, institutional investors will now pay between $2.00 to $2.30 per share. This means it is almost certain that retail investors who subscribed to the Medibank Private offer will buy shares at the capped price of $2.00.

Institutional investors are only likely to pay in the range of $2.00 to $2.30 per share if they believe this will be as cheap as buying the shares via the ASX. A small caveat is that some institutional investors may be prepared to pay more via the book-building process than via the securities exchange. This is simply to ensure they get all the shares they want.

Therefore the trading price is expected to be substantially higher than the $2.00 paid by retail investors. As retail investors prepare for this windfall - gifted to them by their fellow taxpayers - it is worth noting that this is pretty much par for the course in government privatisations.

Just another profitable privatisation for investors

Studies show previous Australian privatisations have been consistently profitable for investors. The table below illustrates that for the 12 previous Australian government floats the share price at the end of the first day of trading has been lower than the subscription price on only one occasion.

Better still, the average one-day return across these privatisations has been 11.29%. It needs to be stressed this is a return earned on the first day of trading. It is not the same as a return that is earned over a year on a portfolio of shares.

First-day returns from Australian government IPOs 1989-2014.

Many retail investors may be considering whether to keep their investment in Medibank for the long term, or cash in on the expected windfall by selling their shares immediately after they list on the securities exchange. Cashing in while in front is appealing to many investors. There is strong evidence that investors tend to be too quick to sell strong-performing shares and too slow to get rid of poor performers.

However, there are two important factors to consider before making that decision. First, cashing in early can have tax implications. Capital gains tax is reduced by half for most individual investors who hold their shares for at least a year. So selling early effectively doubles an investor’s tax bill.

A second consideration is evidence that suggests government privatisations are not only good for investors in the short run, they may also be good in the long term. For example, companies that have been privatised over the past 25 years generated strong share price returns over the three years after listing. This return on shares was, on average, the market return plus 4.8% per year.

This is likely to be because companies tend to be more efficient when operated privately than by the public sector. These efficiencies are not fully anticipated when the companies first list, so the shares outperform as the efficiencies are realised.

In the case of Medibank Private, it has been widely reported the company has been operating less efficiently than most of its competitors. The expected growth of Medibank through inevitable cost-cutting should be factored into the price by institutional investors. However, privatised companies appear on average to outperform expectations.

If history repeats itself, Medibank Private may just prove to be the gift – from taxpayers to investors – that keeps on giving.

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