Geographic Influences on IPO

Literature on IPOs is more and more challenging. Recent research looks at IPOs as phenomena connected with the surrounding environment (e.g., Braun and Larrain, 2009; Hsu et al., 2010). We contribute to this literature by testing whether the firm geographic location matters in IPOs. Our key conjecture is that listed firm clustering around the IPO headquarters i) decreases the likelihood to go public, ii) lowers the underpricing, and iii) boosts the long-run under-performance. These conjectures are motivated by previous research showing that i) retail investors exhibit a preference for local stocks (Local Home Bias, LHB) (e.g., Coval and Moskowitz, 1999), ii) the proximity to the issuing firm reduces outsider information gaps (e.g., Feng and Seasholes, 2004), and iii) the LHB boosts corporate market price (e.g., Hong et al., 2008). To test these conjectures we merge datasets on the Italian private firms (95,745 firm-year observations), listed firms (3,835), and non-financial IPOs (157) over 1999-2012. We capture firm clustering around the IPO by introducing a spatial clustering index based on the harmonic mean of distances between each IPO and the other firms. As predicted, we find firm clustering around the IPO decreases the likelihood to go public, lowers the underpricing, and boosts the long-run underperformance. We control for local wealth, endogeneity, self-selection bias, information asymmetries and the complexity of the price-setting process. Our findings highlight that the firm location matters in IPOs. The firm location affects almost every aspect of the corporate finance such as equity issuance (Loughran, 2008), financial structure (Gao et al., 2011), and payout policy (Becker et al., 2011), among others; we first relate to this literature. Our findings also provide evidence on underwriters’ valuation skills. When attempting to price an IPO, the main problem issuers and investment banks face is the estimation of the aggregate demand (e.g., Lowry and Schwert, 2004). Our results further support this evidence. The complexity of the pricing problem increases in isolated firms because of the LHB which makes additionally relevant the local supply and demand for local stocks. Indeed, the LHB seems implemented in the price-setting process; however, the offer price is not properly adjusted, and isolated IPOs are more underpriced than clustered IPOs. The more reliable explanation is that underwriters fail to estimate the firm value related to the firm location. The main implication would be that a location factor should be included in IPO pricing.