Do media connections help? Evidence from IPO pricing in China

This study examines how social connections between media executives and firms affect initial public offering (IPO) pricing using manually collected Chinese data. We find media-connected firms receive more frequent and more positive coverage than their unconnected peers, resulting in reduced IPO underpricing. However, media-connected firms have worse post-IPO market performance. Although media-connected firms have better pre-IPO accounting performance, they conduct more earnings management under the cover provided by their connected media. Additional results show that the negative effect of media connections on IPO underpricing is more pronounced for media that are not controlled by the central government and are based in the same city as the firm. It is also more pronounced for firms with less institutional ownership and non-state-owned enterprises. Our results remain valid after various robustness tests, such as alternative proxies for IPO underpricing, eliminating alternative hypotheses, matching analysis, instrumental variable analysis, as well as placebo tests. Collectively, our findings suggest that media connections compromise IPO pricing efficiency.     

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.     

Ownership Structure and IPO Underpricing

Abstract:   Stoughton and Zechner (1998) and Brennan and Franks (1997) argue that underpricing can be employed to determine post IPO ownership structure, and thereby to influence monitoring and/or control of the company post issue. This paper employs unique data relating to shareholdings of firms listing on the London Stock Exchange, and provides compelling evidence that IPO underpricing does not arise from efforts to determine the ownership structure of the post IPO firm. It is suggested that research is directed elsewhere to find an answer to the underpricing phenomenon, and for means other than IPO underpricing to affect post IPO ownership structure.     

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.     

Unit initial public offerings: Staged equity or signaling mechanism?

We investigate the use of unit (i.e., package) initial public offerings by Australian industrial firms and conclude that their use reflects their role as a signaling mechanism (Chemmanur and Fulghieri, 1997), as distinct from the agency–cost explanation offered by Schultz (1993). From a sample of 394 IPOs between 1976 and 1994, the 66 firms making unit offerings are typically riskier, use less prestigious underwriters and have a lower level of retained ownership than other IPO firms. While these results are also consistent with Schultz's agency cost explanation, other results we report are not. We find no difference in underpricing etween unit IPOs and other IPO firms, nor are there any significant differences in the planned uses of proceeds reported in the prospectus, post–listing failure rates or secondary equity offerings of the type predicted by Schultz. We do however, report evidence consistent with a prediction unique to the signaling explanation. After controlling for the level of ownership retained by insiders, the proportion of firm value sold as warrants is increasing in IPO firms' riskiness.     

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.     

Going public to acquire? The acquisition motive in IPOs

Newly public firms make acquisitions at a torrid pace. Their large acquisition appetites reflect the concentration of initial public offerings (IPOs) in mergers and acquisitions-(M&A-) intensive industries, but acquisitions by IPO firms also outpace those by mature firms in the same industry. IPO firms’ acquisition activity is fueled by the initial capital infusion at the IPO and through the creation of an acquisition currency used to raise capital for both cash- and stock-financed acquisitions along with debt issuance subsequent to the IPO. IPO firms play a bigger role in the M&A process by participating as acquirers than they do as takeover targets, and acquisitions are as important to their growth as research and development (R&D) and capital expenditures (CAPEX). The pattern of acquisitions following an IPO shapes the evolution of ownership structure of newly public firms.     

Liquidity Benefits from IPO Underpricing: Ownership Dispersion or Information Effect

The positive correlation between initial underpricing and liquidity in the secondary market several months after an initial public offering (IPO) has previously been attributed to ownership dispersion induced by underpricing. We find that public information production is another channel by which underpricing improves liquidity. Using a sample of IPOs from Euronext, we find that analyst coverage engendered by initial underpricing reduces information asymmetry costs and illiquidity in the secondary market. The impact of information asymmetry is statistically more significant on measures based on adverse selection costs than on those based on the proportion of informed traders in the market.     

China’s Securities reforms and IPO wealth loss

We revisit initial public offering (IPO) underpricing in China before and after the 2001 China Securities Regulatory Commission reforms targeting the IPO process and strengthening corporate governance, using Habib and Ljungqvist’s (2001) wealth loss measure instead of headline underpricing. Habib and Ljungqvist argue that the extent to which owners care about underpricing depends on both headline underpricing and the percentage of IPO shares issued relative to total shares outstanding. We find that in the post-reform period, relative to the pre-reform period, the wealth loss for pre-IPO owners is lower, the incremental effect of the association between wealth loss and state-retained ownership is significantly positive, and a higher proportion of independent directors on the board moderates the wealth loss. Our findings suggest that the more market-oriented IPO process and the corporate governance reforms provide insiders of Chinese IPO firms with greater opportunities to influence IPO pricing and thereby reduce their wealth loss.     

Venture capital and underpricing: capacity constraints and early sales

I present a model of the venture capital (VC) and public markets in which VCs suffer from capacity constraints, due to the shortage of skilled VC managers. Consequently, VC firms can only handle a limited number of new projects at once, having to divest from ongoing projects in order to take advantage of new opportunities. This framework is able to match key features presented by the VC and initial public offer (IPO) empirical literatures: (1) VC-backed firms are younger, smaller, and less profitable at the IPO than their non-VC backed counterparts; (2) VC-backed IPOs are more underpriced than non-VC backed ones, (3) there is a positive relationship between underpricing and VC fundraising; (4) small and young VC firms usually take portfolio firms public earlier than their large and mature counterparts; (5) in hot IPO markets, VCs are more likely to take public both very young and small firms as well as mature and large firms, compared to cold markets. Differently, non-VC backed firms are usually smaller and younger in hot markets than in cold ones.     

Underwriter reputation and IPO underpricing: The role of institutional investors in the Chinese growth enterprise market

This paper investigates the effects of underwriter reputation on initial public offering (IPO) underpricing in the Chinese Growth Enterprise Market, in light of the conflicting evidence in the literature on IPO underpricing. Using data during the post global financial crisis period, we find that IPO firms with prestigious underwriters have lower market-adjusted initial returns on average. We further find that prestigious underwriters reduce IPO underpricing by minimizing the time gap between the offering and listing, choosing high-quality firms to underwrite, and reducing information asymmetry between issuers and investors. In the presence of institutional investors, however, we find that more underpricing occurs, as these investors tend to obtain access to IPO shares at a higher price discount via private placements. This new finding suggests that the institutional investors have a role to play in the case of high under-pricing, which partly gets corrected via underwriter reputation.     

Initial Public Offerings: An Analysis of Theory and Practice

We survey 336 chief financial officers (CFOs) to compare practice to theory in the areas of initial public offering (IPO) motivation, timing, underwriter selection, underpricing, signaling, and the decision to remain private. We find the primary motivation for going public is to facilitate acquisitions. CFOs base IPO timing on overall market conditions, are well informed regarding expected underpricing, and feel underpricing compensates investors for taking risk. The most important positive signal is past historical earnings, followed by underwriter certification. CFOs have divergent opinions about the IPO process depending on firm‐specific characteristics. Finally, we find the main reason for remaining private is to preserve decision‐making control and ownership.     

The pricing and performance of IPOs in China’s poor counties

In the context of China’s drive to alleviate poverty, we focus on the initial public offering (IPO) firms located in China’s poor counties and investigate their IPO pricing and post-IPO performance. Contrary to the findings reported for the U.S., we find that the problem of information asymmetry between Chinese firms located in rural areas and their investors is so severe that these IPO firms are associated with significantly higher underpricing. This effect is more pronounced for firms located in rural areas with poor traffic systems. We do not find significant market performance differences between rural and urban firms after their IPOs, but the operating performance of rural firms improves in the short term. Our additional analyses indicate that rural IPO firms have significantly lower investor attention and higher agency costs than urban firms. Overall, we enrich the literature on IPO pricing and the economic effects of geographic location.     

Audit quality, auditor compensation and initial public offering underpricing

We jointly study the impact of audit quality on auditor compensation and initial public offering (IPO) underpricing using a sample of Australian firms going public over the period 1996–2003. We find that quality (Big Four) audit firms earn significantly higher fees than non-Big Four auditors, and audit quality is positively associated with IPO underpricing. The positive relation between audit quality and underpricing is more pronounced for small issues, IPOs underwritten by non-prestigious underwriters, and those that are not backed by venture capitalists. Taken together, our results suggest that quality auditors serve as a signalling device that enhances post-issue market value of equity.     

Merger-Motivated IPOs

In this paper, we find support for initial public offerings (IPOs) motivated by subsequent acquisition activity. Over a third of newly public firms enter the market for corporate control as acquirers within three years of the IPO. We find that IPOs facilitate acquisitions in a number of ways. Newly public firms benefit from the cash raised in the IPO, from subsequent access to public financing, and from ability to pay with publicly traded stock for acquisitions. IPO firms also benefit by obtaining market feedback and by taking advantage of high post-IPO stock values in making stock-based acquisitions at favorable terms.     

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.     

Industrial Diversification and Underpricing of Initial Public Offerings

The initial public offerings (IPOs) of diversified firms, those reporting more than one business segment at the time they go public, experience less underpricing than do IPOs by focused issuers. We explore two explanations for this phenomenon. Diversification may benefit IPO firms by reducing information asymmetries and therefore, lowering underpricing costs. Alternatively, high quality focused firms may be signaling their value by underpricing their shares to a greater degree. Though we find at least some evidence consistent with each explanation, a majority of the evidence favors signaling.     

Ownership structure, family control, and acquisition decisions

We investigate how ownership and family control influence the decision to take part in M&As as an acquirer or as an acquired company in a sample of 777 large Continental European companies in the period 1998-2008. We find that ownership is negatively correlated with the probability of launching a takeover bid, and family firms are less likely to make acquisitions, especially when the stake held by the family is not large enough to assure the persistence of family control. On the passive side of M&A deals, the effect of the largest shareholders' ownership on the decision to accept an acquisition proposal depends non-linearly on the voting rights they hold, and family control reduces the probability of being acquired by an unrelated party. We do not find evidence that family-controlled firms destroy wealth when they acquire other companies. Finally, we document that ownership and family control, while being negatively correlated with M&A activity, are not negatively correlated with growth in firm size.     

Narcissistic managers and IPO underpricing

Using hand-collected data on the signature size of managers in Chinese initial public offerings (IPOs) from 2007 to 2019 as a proxy for managerial narcissism, we examine how IPOs with narcissistic managers (narcissistic IPOs) affect IPO underpricing. The findings suggest that narcissistic IPOs have higher underpricing than non-narcissistic IPOs. Specifically, we find that on average, a narcissistic IPO exhibits approximately 11.3% higher underpricing than a median IPO firm. Our results are robust to alternative metrics of narcissism and underpricing after controlling for endogeneity. Additional analyses suggest that narcissistic IPOs are more likely to engage in earnings management than non-narcissistic IPOs. The former exhibits excessive risk-taking behavior, gauged by earnings volatility pre-IPO and a higher beta post-IPO. In the cross-sectional analyses, we document that the impact of managerial narcissism on IPO underpricing is more salient for IPOs facing unsophisticated investors, high market sentiment, or poor corporate governance.     

Climate change disclosure and the information environment in the initial public offering market

We investigate whether climate change disclosures in initial public offering (IPO) prospectuses affect the information environment in the IPO market. We find that climate change disclosures are associated with lower IPO underpricing. Further analyses reveal that reputable underwriters and the Securities Exchange Commission's Commission Guidance Regarding Disclosure Related to Climate Change enhance the information role of climate change disclosures in the IPO market. We demonstrate that firms with more extensive climate change disclosures provide stronger hedging benefits against climate change risks in the post-IPO period. Overall, our results support the crucial role of climate change disclosures in improving the information environment of the IPO market.