IPO underpricing

Topics: Initial public offering, Underwriting, Corporate finance Pages: 3 (909 words) Published: November 8, 2013
Executive summary
All firms need to raise capital at one time or another to finance new projects, expand operations, or in many cases, just to start up their business. One of the best ways that newer and less established companies have found to raise quick capital is to make a stock offering. Initial public offerings (IPOs) have historically had very large initial first day gains com- pared to the performance of the rest of the market. Historically, IPOs were underpriced by roughly 16% according to an industry expert at Stein, Roe & Fonham. However, in recent months, some IPOs have seen first day run- ups of as much as 200 to 400 percent, and the trend for the future is likely to increase. Differences between the IPO offering price and the first day closing price occur too often and are, on average, too large to be explained away by error in auditing practices. If this were the case, then an auditing firm or investment bank would also error on the side of overpricing the stock. Various theories have come to the forefront of this IPO underpricing debate, most of them explaining the pricing of a company’s stock in an IPO in terms of signaling effects as opposed to the fundamental characteristics of the firm and why a risk averse investment bank would be more likely to underprice a stock issue (Matt, 2009). The purpose of this study is to com- bine the leading theories and test them over a given sample of initial public offerings to see how influential non-fundamental factors are on the IPO price and how the characteristics of the IPO change the magnitude of signaling effects on the IPO price. Research Findings

Academics have found that I.P.O. underpricing is ubiquitous. Jay Ritter has documented underpricing over the years. According to Professor Ritter, the average underpricing for I.P.O.’s in the United States was 14.8 percent from 1990 to 1998, 51.4 percent from 1999 to 2000 and 12.1percent from 2001 to 2009. Over the last 50 years, I.P.O.’s in the United...
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