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Litigation costs and the underpricing of initial public offerings
Author(s) -
Hensler Douglas A.
Publication year - 1995
Publication title -
managerial and decision economics
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 0.288
H-Index - 51
eISSN - 1099-1468
pISSN - 0143-6570
DOI - 10.1002/mde.4090160203
Subject(s) - initial public offering , equity (law) , incentive , litigation risk analysis , business , stock (firearms) , stock options , economics , finance , microeconomics , compensation (psychology) , actuarial science , monetary economics , accounting , law , mechanical engineering , audit , political science , engineering , psychology , psychoanalysis
This paper examines a risk‐averse entrepreneur's motivation to underprice an initial public offering of equity where the entrepreneur faces the threat of litigation by outside investors. Outside investors have an incentive to seek compensation via tort law and the Securities Act of 1933 should the stock price fall subsequent to their purchase of the IPO. Potential litigation costs motivate the entrepreneur to underprice the IPO in a tradeoff between the litigation cost and the up‐front opportunity loss of underpricing. In a single‐period model, this paper formalizes the entrepreneur's pricing and retained ownership decisions resulting in ten testable hypotheses.