Let us work together: The impact of customer strategic alliances on IPO underpricing and post-IPO performance

Leveraging the availability of three years of pre-IPO data and related vs unrelated-party customer information for Chinese firms, we examine the impact of customer strategic alliances (CSA) on IPO underpricing from 2007 to 2015. Our core findings suggest that IPO firms with CSAs have less IPO underpricing than those without such a relationship. The decrease in underpricing is more salient for IPO firms that have non-related-party customers. Additional analysis suggests that the core findings are primarily driven by firms with good information environment pre-IPO, including high audit quality, high analyst following, and low earnings management. We interpret the results as indicating that a good pre-IPO information environment enhances the credibility of CSA relationships and signals high IPO quality. Furthermore, we document that a CSA relationship has a positive impact on an IPO firm's post-IPO performance, especially when the firm has non-related-party customers. Overall, CSAs reduce IPO underpricing and enhance IPO returns post-IPO.     

The IPO and first seasoned equity sale: Issue proceeds,owner/managers' wealth,and the underpricing signal

Recent models of IPO underpricing suggest that high-quality firms underprice their IPOs to differentiate themselves from low-quality firms and, thus, receive a more favorable market response to subsequent equity offerings. We test this suggestion for 172 industrial firms that made an initial public offering during 1987–1991 and made a subsequent seasoned equity offering within three years of their IPO. We examine two measures of the impact of the hypothesized underpricing signal net of the cost of employing that signal. Inconsistent with the underpricing signal hypothesis, we find no evidence that firms recover the cost of an underpriced IPO in either higher issue proceeds or in greater wealth for the firm's initial owners.     

The Pricing of Initial Public Offerings: A Dynamic Model with Information Production

This paper presents an information-theoretic model of IPO pricing in which insiders sell stock in both the IPO and the secondary market, have private information about their firm's prospects, and outsiders may engage in costly information production about the firm. High-value firms, knowing they are going to pool with low-value firms, induce outsiders to engage in information production by underpricing, which compensates outsiders for the cost of producing information. The information is reflected in the secondary market price of equity, giving a higher expected stock price for high-value firms.     

Relationship-Specific Assets and the Pricing of Underwriter Services

This paper investigates the effect of setup costs on the pricing of investment banking services. The existence of setup costs is predicted to result in lower underwriter spreads in IPOs for firms that are expected to issue again. Consistent with this prediction, I find significantly lower spreads for firms that make subsequent issues. I also find that a firm's likelihood of changing underwriters in a subsequent offer is related to the time between offerings and the underwriter's pricing performance in the IPO. These results suggest that the deviations from optimal IPO pricing carry a penalty for the underwriter.     

Issuer-oriented underpricing costs in initial public offers: Evidence from Hong Kong

This paper estimates the underpricing cost associated with new shares issued and sold when firms go public in a traditional British-style IPO market in contrast to prior work which focussed on the underpricing cost to pre-IPO investors. Secondly, the estimates account for interest income on application funds received by issuing firms. Using data from the Hong Kong IPO market, the results show that the issuer underpricing cost of new share issues is on average only 14% of headline underpricing. When interest on application funds is taken into account, net issuer underpricing cost reduces to just around 7% of headline underpricing. This finding provides a compelling explanation of why issuing companies may not be concerned about underpricing in traditional British-style IPO markets. Thirdly, we also find that pre-IPO investors take steps to minimise wealth transfer to new investors either by selling a very small proportion or none of their pre-IPO shares. These findings suggest that explanations of IPO underpricing to the various parties involved in the process should, in part, be sought in the institutional structures and investment banking practices of the relevant primary capital market.     

Strategic networks,certification, and initial public offerings

This study investigates the certification effect of a firm's strategic alliance network on initial public offerings using a large data set involving 3860 IPO events from the U.S. IPO market. The results show that IPO firms with more direct alliance relationships and a more central position in the strategic network allow them to: (i) attract more prestigious underwriters and greater institutional interest; (ii) experience lower underwriting expenses, larger IPO offer sizes, and higher initial returns; and (iii) achieve superior long-term performance. Further, both the IPO firm and their strategic partners' network positions have prominent impacts on an IPO's initial issuing status and long-term performance. Our results suggest that an IPO firm's strategic alliance network serves as a useful indicator by which to determine the quality of the IPO firm.     

Litigation risk,underpricing, and money-losing IPOs

We examine the impact of firms' pre-IPO earnings on the relationship between litigation risk and IPO underpricing. We confirm the insurance effect of the lawsuit avoidance hypothesis; however, we find that the use of underpricing to reduce litigation risk is mainly associated with firms with negative earnings at the time of going public. Our results are robust to the timelines over which sample firms were sued, alternative underpricing measures, the addition of various control variables to our baseline regression models, and different proxies to categorize IPO firms. We also investigate the relationship between litigation risk, pre-IPO earnings, and underwriter gross spreads. The results indicate that, when dealing with firms facing a high risk of litigation, underwriters charge significantly higher spreads to negative-earnings issuers than profitable IPO firms.     

UNDERPRICING OF IPOS THAT FOLLOW PRIVATE PLACEMENT

In this study we examine the underpricing of initial public offerings (IPOs) by firms that have private placements of equity before their IPOs (PP IPO firms). We find that PP IPOs are associated with significantly less underpricing than their peers. Furthermore, PP IPOs are associated with lower underwriting spreads, more reputable underwriting syndicates, and greater postissue analyst coverage as compared to IPOs that are issued by their industry peers under similar market conditions. Consistent with the implications of the information asymmetry explanation for IPO underpricing, our findings suggest that companies could benefit by conveying their quality via successful pre‐IPO private placements that help reduce the cost of going public.     

The Credibility of Earnings Forecasts in IPO Prospectuses and Underpricing

This paper provides empirical evidence of the impact of the voluntary disclosure of management earnings forecasts in IPO prospectuses and of the credibility of these forecasts, as perceived by investors at the time of the IPO. We measure forecast credibility ex ante with two approaches: (i) a vector of determinants of credibility that are observable by market participants at the time of the issue and (ii) the predicted value of the forecast error based on some of these determinants. Controlling for the firm's decision on whether or not to issue a forecast, we find that the issue of a forecast reduces underpricing. We find that the quality of the firm's governance and of the auditor and underwriter associated with the issue seems to act as a substitute to the disclosure of an earnings forecast in the prospectus, so that they significantly decrease the level of underpricing only for non‐forecasters. However, despite our various approaches to measure ex ante credibility, we find no association between the pricing of the issue and perceived forecast credibility at the time of the IPO.     

Signaling in the Internet craze of initial public offerings

We explain the clustering of underpricing in initial public offerings (IPOs). The model features an industry with aggregate demand uncertainty and asymmetric information about firms' quality. In the IPO market, firms can signal quality by underpricing or under-issuing new shares. Expected aggregate demand for the industry's products increases with the publicity that the industry creates through IPO underpricing. We show that asymmetric information and expectations on aggregate product demand interact with each other to generate multiple equilibria. Underpriced IPOs cluster in one equilibrium but not in the other. We use these results to explain why the clustering often occurs in particular industries, is short-lived, and is sensitive to economic conditions.     

DIFFERENTIAL INFORMATION AND THE UNDERPRICING OF INITIAL PUBLIC OFFERINGS: AUSTRALIAN EVIDENCE

This paper provides evidence on underpricing in Australia using 340 industrial initial public offerings over the period 1980 to 1990. It aims to explain why underpricing is consistent with rational behaviour by focusing on differential information across IPO firms. We measure differential information along two dimensions, the quality and the quantity of information. We propose that the quality of information is reflected in the reputation of independent advisers to the preparation of the issuing firm's prospectus. Three such independent external advisers are examined: the investigating accountant, the underwriter, and the expert. The results provide strong support for the reputation effect of the underwriter on underpricing. Although there is evidence showing a negative relation between underpricing and the reputation of the investigating accountant and the expert, it is not significant. Our results also support the differential quantity of information hypothesis. Firms with more information available are, on average, less underpriced.     

The Impact of the Corporate Control Market on IPO Decisions

Entrepreneurs who take their firm public during an active corporate control market face an increased risk of losing control through a takeover. I examine the extent to which the threat of takeover impacts IPO firms’ decisions and find that an active takeover market in an IPO firm's industry increases the probability that the firm incorporates in a state with state‐level antitakeover provisions. IPO firms backed by venture capital investors and reputable underwriters are less likely to incorporate in a state offering antitakeover provisions. A closer examination of equity carve‐outs suggests that control is not a first‐order consideration for some IPO firms.     

Do Expert Informational Intermediaries Add Value? Evidence from Auditors in Microcap Initial Public Offerings

Do expert informational intermediaries add value? We address this question by examining the informativeness of the audit report contained in the prospectus associated with a firm's initial public offering (IPO). At the time of the IPO, there is a relative lack of information to facilitate the establishment of equity values, suggesting that the information provided by outside “experts” (e.g., auditors, underwriters) is particularly important. In this article we study small, non‐venture‐backed IPOs, a segment of the market with the poorest long‐run performance and where the prestigious audit firm is often the sole (if any) expert present. We find that the pre‐IPO opinions of larger auditors are more predictive of post‐IPO negative stock delistings. Of particular note, the opinions of the national‐tiered firms are comparably predictive to those of the Big 6, though this finding emerges only after we consider the selectivity‐based differences in the clients that hire these national firms. Our findings also indicate that, for larger auditors the presence of a pre‐IPO going‐concern opinion is more strongly associated with first‐year stock returns and that larger auditors are more likely to give such opinions to their distressed clients. Overall, we address a deficiency in the literature relating to “the paucity of evidence on the value of auditor opinions to investors” (Healy and Palepu [ 2001 p. 415]).     

Single versus multiple banking: lessons from initial public offerings

A vast research in banking addresses the question of the costs and benefits of multiple bank relationships versus a single bank relationship. Although no clear-cutting conclusion is reached, several contributions suggest that multiple bank relationships might lead to a sub-optimal level of monitoring, compared to a single bank relationship, as a result of free riding and coordination problems. We take a novel approach to tackle this research question, by looking at the role, if any, played by the number of lending relationships in initial public offerings (IPOs). We look at the short-term performances of IPOs as measured by underpricing and find that firms that go public with multiple bank relationships exhibit more underpricing than those that go public with a single bank relationship. This finding is independent of the number of bank relationships and/or whether any of the lending banks also acts as underwriter in the offering. We interpret our results as suggesting that the market attributes a weaker certification role to multiple bank relationships because of their less effective monitoring of IPO firms.     

IPOs,clustering, indirect learning and filing independently

IPO underpricing has been attributed to valuation uncertainty, which can be at least partially resolved by the indirect learning associated with IPO clustering [Benveniste, L.M., Ljungqvist, A., Wilhelm, W.J., Yu, X.Y., 2003. Evidence of information spillovers in the production of investment banking services. Journal of Finance 58, 577–608]. We examine why firms might choose not to issue their IPOs contemporaneously with clusters of similar firms, forgoing opportunities to learn from their peers. We find that the willingness to file an IPO without the benefit of indirect learning from peer firm IPOs is directly related to insiders’ needs for portfolio diversification and the firm’s need to raise capital.     

What drives the valuation premium in IPOs versus acquisitions? An empirical analysis

Using a hand-collected data set of private firm acquisitions and IPOs, this paper develops the first empirical analysis in the literature of the “IPO valuation premium puzzle,” which refers to a situation where many private firms choose to be acquired rather than to go public at higher valuations. We also test several new hypotheses regarding a private firm's choice between IPOs and acquisitions. Our analysis of private firm valuations in IPOs and acquisitions indicates that IPO valuation premia disappear for larger VC backed firms after controlling for various observable factors affecting a firm's propensity to choose IPOs over acquisitions. Further, after controlling for the long-run component of the expected payoff to firm insiders from an IPO exit, we find that the IPO valuation premium vanishes even for larger non-VC backed firms and shrinks substantially for smaller firms as well. Our Heckman-style treatment effects regression analysis demonstrates that the above results are robust to controlling for the selection of exit mechanism by firm insiders based on unobservables. Our findings on private firms' choice between IPOs and acquisitions can be summarized as follows. First, firms operating in industries characterized by the absence of a dominant market player (and therefore more viable against product market competition) are more likely to go public rather than to be acquired. Second, more capital intensive firms, those operating in industries characterized by greater private benefits of control, and those which are harder to value by IPO market investors are more likely to go public rather than to be acquired. Third, the likelihood of an IPO over an acquisition is greater for venture backed firms and those characterized by higher pre-exit sales growth.     

The effect of language on IPO underpricing: Evidence from a multinational research

This paper examines how language characteristics affect initial public offerings (IPO) underpricing. We conjecture that Future-Tense Reference (FTR) language characteristics will informally influence human cognition of future rewards, raise their investment sentiment, and thus affect IPO underpricing. Using a sample of 33,414 IPOs in 30 countries, we find evidence that issuing firms operating in weak-FTR environments tend to experience a higher level of underpricing than those in strong-FTR settings. Our results remain robust after controlling for other linguistic and cultural characteristics, using various fixed-effect structures, and adopting the instrumental variable approach. The positive relationship between weak FTR and IPO underpricing is less pronounced in countries (regions) with higher education levels and higher institutional shareholding ratios, supporting the role of FTR on human cognition. Furthermore, our findings provide evidence supporting that the linguistic characteristic of FTR can impact firms' IPO decisions and the market's liquidity. Overall, the result highlights the importance of informal linguistic characteristics in explaining global IPO underpricing differences.     

Management of the IPO performance in Thailand

This research aims to explore the relationships between six major IPO elements in Thailand: underwriter reputation, ownership concentration, book-building, IPO allocation, the length of the lock up period, and investor interest and underpricing. The sample comprises 153 IPOs listed between 2001 and 2011. Cross-sectional analysis reveals that IPO allocation appears to be the strongest factor with a negative relation to underpricing. The length of the lock up period, issue size, industry, and hot issue market show significant and positive relationships with underpricing. Underwriter reputation is not associated with underpricing as the choice of underwriter is restricted by the Thai regulator's requirements. Book-building does not explain underpricing. Institutional investors play very limited roles in Thai IPOs. A small change in ownership concentration does not affect underpricing. Nevertheless, a longer lock up period can yield a higher initial return. Such a provision can restrain insider dealing.     

Is sustainability rating material to the market?

This study examines whether information about a firm's engagement in environmental, social, and governance (ESG) practices is material to market participants. Evidence from a sample of 1856 initial public offerings (IPOs) by U.S. companies for the 2007–2018 period robustly documents that firms for which there is available ESG performance information prior to going public exhibit higher underpricing due to a positive market response. Such a reaction is validated by agency cost-reducing practices that ESG-rated firms follow prior to the IPO, the superior post-IPO market performance they exhibit in terms of equity financing, and the higher share of financially sophisticated investors they attract compared to their ESG-unrated peers. Overall, our results highlight that it pays off to do good and to have the right investors; however, firms’ good ESG practices need to be visible to the market, through rating practices, to reap the benefits.     

The Pricing of Insurer Demutualization Initial Public Offerings

This article examines the pricing of the initial public offerings (IPOs) that follow insurance company demutualizations. Insurers that convert from mutual to stock form typically cite the need for capital as a key motivation. Given that capital adequacy is a primary regulatory objective for insurers, one would expect that for a given number of shares to be sold, these firms would price their offerings to maximize proceeds. However, the vast literature on IPO pricing suggests various theories as to why it may be in the issuing firm's best interest to underprice its offering. By examining the initial and long‐run stock returns for these conversion IPOs, the existence and degree of underpricing, as characterized by large initial returns, can be determined. It is observed that on average demutualization insurer IPOs post significantly higher first‐day returns than nondemutualization insurer IPOs. These gains would accrue to the initial investors and to those policyholders who receive compensation in the form of shares in the newly created stock insurer. Attractive returns are sustained for both groups of insurers during the first few years after IPO.