IPO Discounts and Fraction of the Firm Sold: Theory and Evidence

Abstract

I propose a model of IPO discounts with an issuer facing a variety of costs and benefits from an IPO that are proportional to issuer market capitalization in an oligopolistic IPO market as a lens to focus on the relationship between IPO underpricing and fraction of the firm sold during the IPO. Considering some of the added costs and benefits during an IPO from three factors, (1) venture capital funding, (2) issuance during the tech bubble and (3) high technology industry issuances, I use the proposed model to derive explicit empirical implications in terms of changes in the relationship between IPO discount and fraction of the firm sold arising from these factors. Tests of empirical predictions on actual IPO data demonstrate consistency with proposed model: In particular, I find the relationship between IPO discounts and fraction of the firm sold is significantly different due to these factors, as proposed by the model. Changes in this relationship explains most or all the impact of these three factors on the IPO underpricing. Also consistent with the model, the fraction of the firm sold during the IPO is also significantly different depending on these three factors.

Keywords: IPO discounts, overhang, tech bubble

JEL Classification: G24, G32