Local Policy Risk and IPO Performance

Abstract

We investigate how the realignment in political landscape (local policy risk) increases IPO mispricing. Using the concept of corporate proximity to political power, we find that local policy risk amplifies adverse selection problems, which leads to higher underpricing. Economically, a shift on the political map from an area completely opposed to the ruling party to being completely aligned translates to $12 million left on the table for the average issuer. While politically active firms successfully manage this policy realignment risk, the other firms bear majority of its consequences. We also demonstrate considerable heterogeneity on the impact of uncertainty emanating from the dynamic nature of the political landscape across industries, states, and firms. Lastly, we document that policy risk has a substantial adverse impact on the survival of IPO issuers.

Local IPO waves, local shocks, and the going public decision

“…Regions have been identified based on NUTS codes, the standard EU geocode for referencing the subdivisions of the EU member states for statistical purposes. In line with the prevailing literature, in regressions we control for the market cycle before the IPO (e.g., Ibbotson & Jaffe, 1975;Ritter, 1984), IPO aftermarket volatility (e.g., Ritter, 1987), the IPO revision (e.g., Hanley, 1993;Ljungqvist & Wilhelm Jr., 2003), the underwriter reputation (e.g., Carter & Manaster, 1990;Megginson & Weiss, 1991), the number of old shares sold and the number of new shares issued at the IPO, that is, the incentives for insiders to underprice (e.g., Habib & Ljungqvist, 2001), the participation in the offer by institutional investors (e.g., Aggarwal et al, 2002;Hanley & Wilhelm Jr., 1995), IPO gross proceeds, firm age and firm size, tackling the uncertainty about the offer (e.g., Ritter, 1987Ritter, , 1984, and the local political alignment (e.g., Colak, Gounopoulos, Loukopoulos, & Loukopoulos, 2018). In addition, all regressions include calendar-year dummies, industry dummies, and regional dummies.…”