Changes in Underwriters’ Selection of Comparable Firms Pre- and Post-IPO: Same Bank, Same Company, Different Peers

Abstract

The most common method for valuing companies going public is the use of comparable firm multiples. We compare the selection of peer firms made by investment banks as underwriters at the IPO with that done shortly thereafter as analysts. We find that 3 out of 7 comparable firms, on average, are changed. The peers published in the IPO prospectus have higher valuations than those published in the post-IPO equity research report, with the average P/E ratio dropping from 44 to 27. We argue that underwriters select comparable firms that make the IPO look conservatively priced, while this conflict of interest tends to fade after the IPO. The upward bias in peer selection is larger for underwriters with greater market power, and lower for repeat players in the IPO market. A biased selection of peers results in higher underpricing and lower long run performance of IPOs.

Keywords: Initial Public Offerings, valuation, underwriters, analyst, comparables

JEL Classification: G24, G30