An Empirical Analysis of the Flotation Cost of Corporate Securities, 1971–1972

Johnson, Keith B.; Morton, T. Gregory; Findlay, M. Chapman

doi:10.1111/j.1540-6261.1975.tb01028.x

Cited by 2 publications

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“…As might have been expected, these issues were far more homogeneous than bond issues in general [5]. Numerous potential independent variables were discarded for lack of cross‐sectional variation in this sample.…”

Section: Methodsmentioning

confidence: 99%

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An Analysis of the Flotation Cost of Utility Bonds, 1971–76

Findlay

Johnson

Morton

1979

J of Financial Research

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The ability of public utilities to raise the massive sums which will be needed to meet the nation's requirements for energy and communications will be affected critically by the efficiency of our primary market for money capital. Central to the question of market efficiency, which is of concern to all finance scholars, practitioners and regulators, is the flotation or issuance cost associated with new securities offerings of public utilities. This paper examines the efficiency of the primary market for utility debt securities issued publicly during the period January, 1971 through April, 1976. It seeks to identify the determinants of flotation costs for these issues. Previous studies, areas of inconsistency, and conventional wisdom are presented in establishing an efficient capital market framework for the study. I. Competition, Negotiation, and EfficiencyMost existing studies of capital market efficiency have dealt with the informational efficiency of the secondary market (i.e., transactions in outstanding securities). The primary, or new issues, market consists of transactions on at least two levels: the sale by the issuing firm to the underwriting group and then the resale by the latter to the investing public. Such empirical studies as have been done of the primary market have tended to lump these transactions together or else have concentrated upon the second (e.g., the underpricing of new issues, the hot issues phenomenon). A new issue generally involves the raising of funds for additional capital investment by the firm. A firm that seeks to maximize shareholder wealth and that operates in informationally efficient secondary markets will have released data about any windfalls associated with the investment budget prior to the sale of the new issue, such that the prices of the securities will contain an unbiased estimate of the net present value of the investment budget. What is then left to consider with respect to economic efficiency is the structure, conduct, and performance of the intermediation service provided. Issue cost studies, such as this paper and those discussed later, may be viewed as efforts to gauge the economic efficiency of the first stage of the primary market, or equivalently, the efficiency of the market for investment banker intermediation services. Since no complete theory of the investment banking firm has been forthcoming that is normatively derived and operational, all such studies are open to charges of being ad hoc to a greater or lesser extent.In the context of economic efficiency, the competitive versus negotiated issue debate seems to have been posed inappropriately. A particular service (i.e., a firm underwriting of bonds) would appear to be offered at a price to be determined in either of two ways at

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Section: Methodsmentioning

confidence: 99%

“…The first effort at quantitative analysis was undertaken by Cohan [1]. Subsequently, there have been studies of municipal bonds [12], and straight corporate debt and convertible corporate debt [4, 5]. …”

Section: Prior Researchmentioning

confidence: 99%