The Risk of Setting a Fixed-Offer Price and Underpricing from the Perspective of Book-Building Underwriters and Best-Efforts Issuers

Posted: 8 Mar 2011

See all articles by Steven L. Jones

Steven L. Jones

Indiana University - Kelley School of Business - Department of Finance

John C. Yeoman

North Georgia State University

Date Written: March 7, 2011

Abstract

Initial uncertainty about the value of IPOs combined with costs of over and underpricing make it risky to set fixed-offer prices. Assuming issuers seek to maximize proceeds net of the spread, we show it is optimal for book-building underwriters and best-efforts issuers to set the fixed-offer price below the expected value of the new shares, yielding underpricing consistent with observed levels. The results provide a more comprehensive view of underpricing, reflecting the perspectives of underwriters and best-efforts issuers, along with straightforward explanations for why underpricing persists when investors expect price support and the observed correlation between IPO uncertainty and underpricing.

Keywords: initial public offering, IPO, underpricing

JEL Classification: G24

Suggested Citation

Jones, Steven L. and Yeoman, John C., The Risk of Setting a Fixed-Offer Price and Underpricing from the Perspective of Book-Building Underwriters and Best-Efforts Issuers (March 7, 2011). Available at SSRN: https://ssrn.com/abstract=1780330 or http://dx.doi.org/10.2139/ssrn.1780330

Steven L. Jones (Contact Author)

Indiana University - Kelley School of Business - Department of Finance ( email )

801 W. Michigan Street
Bus/SPEA 4048
Indianapolis, IN 46202-5150
United States
317-278-7771 (Phone)

John C. Yeoman

North Georgia State University ( email )

School of Business
Dahlonega, GA 30957
United States
770-664-4188 (Phone)

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