The cost of going public and financial constraints

Abstract

We provide empirical evidence on the bargaining power model proposed in Hu and Ritter (2007) by examining the financial constraints channel on the direct and indirect cost of going public. We find that financially constrained firms possess lower bargaining power and thereby incur higher direct costs (gross spreads) and higher indirect costs (underpricing) in an IPO. Consistent with the bargaining power model, we find that IPOs of financially constrained firms are usually managed by sole bookrunners and underwritten by smaller syndicates. Finally, we find that these financially constrained IPO firms underperform their non-financially constrained IPO peers in the long term. These results are robust to multiple endogeneity tests.