The Timing of Initial Public Offerings: A Real Option Approach

46 Pages Posted: 2 Jun 2001

Date Written: December 20, 2000

Abstract

This paper analyzes the timing of IPOs by treating the going-public decision as a real option. Investors value the private firm using publicly observed market prices of firms from the same industry. With stochastically evolving market values firm insiders want to leave open the option of taking the firm public later, after a positive price shock. Going public exercises this option, which must be viewed as a cost of undertaking an IPO. Optimal exercising of the option dictates that IPOs should only occur after price run-ups. Firms never go public in a down market because the value of waiting is too great. These incentives can lead to clustering of IPOs near market peaks. The results generalize to seasoned issues. Each equity offering is for a unique fraction of the total ownership claim for the firm and is associated with its own timing option. Each equity issue is independent of all the others, and therefore the timing of an offering is unaffected by subsequent issues. Each equity issue is likely to follow an abnormal price increase.

Keywords: IPO, real option, timing

JEL Classification: G32, G12

Suggested Citation

Draho, Jason, The Timing of Initial Public Offerings: A Real Option Approach (December 20, 2000). Available at SSRN: https://ssrn.com/abstract=271351 or http://dx.doi.org/10.2139/ssrn.271351

Jason Draho (Contact Author)

Morgan Stanley ( email )

1585 Broadway
New York, NY 10036
United States

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