Three essays on corporate finance
The thesis consists of three essays on corporate finance. In the first essay, we test the hypothesis that the stock market tends to overvalue initial public offerings (IPOs), assuming that IPO issuers can value their own firms more accurately. Using the lower limit of initial file price range as issuers’ reservation price, we estimate the premiums of IPO first day closing price and first month closing price over the reservation price. We find that the price premiums are positively associated with proxies for market over-optimism and uncertainty. IPOs with higher price premiums have worse stock performance in the long run. The results are robust to various economic specifications. The findings are consistent with the argument that the stock markets get over-optimistic about IPOs from time to time. In the second essay we investigate insider selling activities for IPO firms. We find that insiders in 31.3% of IPOs sell shares prior to lock-up expiration (early sales). Consistent with the IPO over-optimism hypothesis, IPO price premium is positively correlated with early sales as well as sales following lock-up expiration (late sales), which suggests that insiders of overvalued IPOs tend to opportunistically liquidate their holdings. In addition, empirical evidences show that insiders may exploit IPO mispricing in the primary market to sell secondary shares and revise up total share offered. In the third essay, we explore why many firms disclose internal control (IC) deterioration under section 404 of Sarbanes-Oxley Act after previously reporting effective IC. We find empirical evidences suggesting that many of the reported IC deteriorations result from detection of previously undetected weaknesses. Restated or not, the reported deterioration in IC is associated with increase in audit fee, increase in management turnover and auditor turnover, decline in Altman Z score decile, and increase in loss. Consistent with an agency hypothesis that managers try to manipulate the IC process when firm performance declines, the reported deterioration in IC is also associated with poor stock returns in the year before disclosure. ICW disclosure is more likely when poor stock return is combined with higher sensitivity of executive compensation to stock price change.