Robust Determinants Ipo Underpricing and Their Implications For Ipo Research

Journal of Corporate Finance 27 (2014) 367383
Contents lists available at ScienceDirect
Journal of Corporate Finance

journal homepage: www.elsevier.com/locate/jcorpfin
Robust determinants of IPO underpricing and their implications

for IPO research
Alexander W. Butler a,, Michael O'Connor Keefe b, Robert Kieschnick c
a
Jones School of Management, Rice University, 6100 Main Street, MS-531, Houston, TX 77005, United States
b
School of Economics and Finance, Victoria University of Wellington, PO Box 600, Thorndon, Wellington 6040, New Zealand
c
Naveen Jindal School of Management, SM 31, The University of Texas at Dallas, Richardson, TX 75083-0688, United States
a r t i c l e i n f o a b s t r a c t
Article history: Using several different methodologies, we quantify the statistical robustness of variables used in
Received 6 June 2013 prior research to explain initial IPO returns. We establish a parsimonious list of robust variables
Received in revised form 13 June 2014 and evaluate their implications for different theories of IPO underpricing and clustering. Further,
Accepted 14 June 2014
we illustrate how using such a set of robust explanatory variables leads to several different conclu-
Available online 22 June 2014
sions than prior research that failed to include these important control variables. Researchers who
identify new potential predictors of IPO initial returns should control for the list of robust variables
JEL classication: we identify.
G12
2014 Elsevier B.V. All rights reserved.
G24
G30
Keywords:
IPO
Initial returns
Underpricing
Underwriting
Going public
1. Introduction
There are numerous published empirical studies of the factors that might inuence the initial returns of IPOs.1 But, as with many
empirical topics, it is difcult to compare results across papers because each has a different specication of the regressors or controls.
This variation in research design is understandable, but the use of different control variables makes it difcult to assess whether a var-
iable of interest is statistically signicant and economically important or simply correlated with a relevant omitted variable. Unlike
other areas of nance (e.g., Rajan and Zingales (1994) and Frank and Goyal (2009) for capital structure research, Fama and French
(1993) for asset pricing, or Cashman et al. (2013) for governance research), there are no benchmark specications in the IPO
literature.
This study provides a benchmark regression specication for research on the determinants of initial IPO returns, and in doing so,
sheds light on competing theories for why IPOs are underpriced on average (i.e., experience positive average initial returns) and why
the initial returns of IPOs cluster over time. Using a large set of variables employed in prior research, we apply ve different
We thank Lee Ann Butler, Pierre Chaigneau, Jay Ritter, Ivo Welch, Yexiao Xu, and Harold Zhang for their helpful comments. We especially thank our referee, whose
numerous detailed and helpful suggestions greatly improved the paper.
Corresponding author.
E-mail addresses: alex.butler@rice.edu (A.W. Butler), michael.keefe@vuw.ac.nz (M.O. Keefe), rkiesch@utdallas.edu (R. Kieschnick).
1
See Ritter and Welch (2002) and Ljungqvist (2007) for reviews of this literature. See Appendix A of this paper for information on a number of these studies and
particularly the explanatory variables that they use.
http://dx.doi.org/10.1016/j.jcorpn.2014.06.002
0929-1199/ 2014 Elsevier B.V. All rights reserved.
368 A.W. Butler et al. / Journal of Corporate Finance 27 (2014) 367383
methodologies for identifying relevant or robust inuences on initial IPO returns. We then consider the implications of these robust
inuences for different theories of why IPOs are underpriced as well as why they cluster in time.
Using a sample of U.S. IPOs from 1981 through 2007, we nd only fteen out of the forty-eight variables we study are robust across
the whole sample period and capture all that is signicant within different regimes during our sample period. These variables are: Ln
of Firm Sales, Offer Price Revision, Ln of News Stories, Total Liabilities to Assets ratio, Investment Bank Market Share, Average Underpricing in
Previous 30 Days, Average Percentage Revisions in Previous 30 Days, Prior 30 Day CRSP EW Index, Ln of one plus the ratio of secondary
shares retained to shares offered, Offer Revision from Original Filing date when they are negative, Ln of industry market value to sales
ratio, Ln of the offer price to sales ratio, Prior 30 Day Industry Return, Prior 30 Day standard deviation of Industry return, and the Prior
30 Day NASDAQ Return.
This evidence has a number of implications. For example, Lowry and Schwert (2002) nd that the information from prior IPOs does
not inuence current IPO underpricing. In contrast, we nd evidence that information on the pricing of prior IPOs (e.g., Average
Underpricing in Previous 30 Days) does inuence current IPO underpricing. Furthermore, we nd that a large proportion of the varia-
tion in initial IPO returns is explained by publicly available information known prior to the IPO offer date. Consequently our evidence
raises doubts about the importance of private information arguments to explain IPO underpricing and clustering fully (e.g. Alti, 2005).
To demonstrate the usefulness of our benchmark specication, we re-examine two important debates in the literature: one over
the inuence of control considerations and the other over the effect of venture capitalist backing on IPO underpricing. In both cases,
we provide evidence that including the robust control variables we identify produces substantially different estimates than specica-
tions that omit them. And nally, we examine the robustness of our benchmark specication over different identications of IPO
regimes.
The remainder of the paper is organized as follows. Section 2 provides a description of our sample and sample data. Section 3
provides a brief description of the methodologies that we employ to ascertain which variables are relevant or robust, and the results
of applying the methodologies to our sample data. Section 4 examines the robustness of these variables across regimes within our
sample period, and so establishes whether our set of robust variables is missing important considerations within different time
periods. Based on this evidence, in Section 5, we draw out the implications of our ndings for different theories of IPO underpricing
and clustering. In addition, this section provides two concrete examples of why having a benchmark specication is important to
the future development of this literature. Finally, Section 6 concludes with a short summary of our evidence and conclusions.
2. Variables and sample
2.1. Sample construction
From the SDC Platinum New Issues Database, we obtain 11,372 records for initial public offerings between 1981 and 2007. We
focus on this time period for two important reasons. First, it covers much of the time periods examined in many previous IPO studies.
Second, it ends just prior to the U.S. nancial meltdown and the virtual collapse of the U.S. IPO market, which has only recently begun
to renew itself.
For the period between 1986 and 2007, we merge Center for Research in Security Prices (CRSP) records into the SDC database
using the 8-digit CUSIP from SDC and the 8-digit NCUSIP from CRSP. We obtain 8646 matches using this matching procedure. We ob-
tain 243 additional matches by merging the datasets using ticker symbol, 49 using the 8 digit CUSIP in CRSP, and 15 using the 6-digit
CUSIP. For the period between 1986 and 2007, we obtain 8902 matches out of a possible 9570. Because SDC does not report the 8-digit
CUSIP prior to 1986, we merge Center for Research in Security Prices (CRSP) records into the SDC database using the 6-digit CUSIP
from SDC and the rst 6-digits of the 8-digit NCUSIP from CRSP. For the period between 1981 and 1985, we obtain 1507 matches
out of a possible 1802. In summary, our merged database between SDC and CRSP consists of 10,409 (i.e. 8902 + 1507) IPOs between
1981 and 2007.
We employ several common data lters used in the literature. First, we drop 789 IPOs with an offer price less than $5. Second, we
drop 2186 IPOs in the nancial industry with SIC codes between 6000 and 6999. Third, we retain ordinary common shares (denoted
by CRSP Share Codes 10 and 11), and drop 756 REITS, Limited Partnerships, Closed End Funds, and American Depository Receipts.
Fourth, we keep rm commitment book-built IPOs and drop 295 unit IPOs, 15 auction IPOs, and 1 block trade IPO. Our merged
CRSP and SDC Platinum database with lters contains records of 6362 Ordinary Common Stock IPOs between 1981 and 2007.
We use Compustat Annual for all accounting data in the study. Because we are interested in accounting data prior to the rm being
publically traded, we use the Compustat Annual and not the merged Compustat/CRSP dataset. First, we create a cross-reference le
that uniquely identies rms by GVKEY and PERMNO identiers. Second, we merge using PERMNO the cross reference le into our
merged CRSP and SDC Platinum database. Lastly, we merge using GVKEY the Compustat Annual dataset with our merged CRSP and
SDC database. Our merged SDC Platinum, CRSP, and Compustat database with lters contains records of 5573 Ordinary Common
Stock IPOs between 1981 and 2007.
We merge several variables from les on Jay Ritter's web site into our database.2 These les include information on rm founding
dates, share class, whether the rm is in the Internet business, and investment bank reputation. We match our database with these
les using PERMNO. When PERMNO is not provided in the original Jay Ritter le, we match on company name. We merge the
founding date of each rm into our database and obtain 5453 matches. We merge a dummy variable that indicates if the rm is in
2
We thank Professor Ritter for making these data publicly available. See http://bear.warrington.u.edu/ritter/ipodata.htm.
A.W. Butler et al. / Journal of Corporate Finance 27 (2014) 367383 369
the Internet, identifying 463 internet rms. We identify 385 multiple share class rms and adjust the shares outstanding of these rms
to reect multiple share classes. Lastly, we match the lead bookrunner and IPO year to the modied CarterManaster reputation
ranking to construct our investment bank reputation variable.
Jay Ritter also provides time series variables. Using the month of the IPO issuance date as the matching variable, we merge the
average initial IPO return in the previous month and the number of IPOs in the previous month. We also construct several additional
time series variables and merge these variables by offer date into our database. Using the daily CRSP le from 1981 through 2007, we
compute the rolling 30-day average return of the CRSP Equal Weighted Index. Using our SDC le, we compute the number of IPOs each
day as well as the average initial returns each day. We then compute the rolling 30 day average initial returns and the rolling 30-day
number of issued IPOs. Using data from Ken French's website,3 we also compute rolling 30-day average returns for each of the Fama
French 49 Industries and the second moment of many of these measures. In order to ensure that each time series variable is observable
at the time of the offer, we merge the time series variables by matching the offer date in our main database with the one day lagged
date of each time series variable.
2.2. Identication and construction of study variables
First, we identify empirical studies that (a) are cited by other studies, (b) are published in the top nance journals, and (c) focus on
the initial returns of IPOs.4 We then document the explanatory variables used in these studies. In a supplementary appendix, we
provide the variable name, description, years of the study, p-value associated with the explanatory variable from the study, and the
associated reference.5
Next we select from the variables identied in the literature forty-eight explanatory variables, including rm, market, ownership,
and underwriter characteristics. We exclude from our analysis variables that were insignicant in the original studies (identied as ns
in the supplementary appendix), variables that we view as redundant, and variables that we did not have the data necessary to
construct. Because we examine data on U.S. IPOs, we use variables that are relevant to U.S. IPOs. This last lter primarily results in
the exclusion of variables that are specic to a particular country, market, or type of IPO (e.g., state-owned companies, as in the
case of Dewenter and Malatesta (1997)).
In Appendix A, we provide the variable name, detailed description, data source, and associated reference. In Table 1, we report
summary statistics for each of these variables over our whole time period, 1981 to 2007. Table 1 reports the mean of First Day Return
is 20.1%, with a median of 7.5%. These, and the other reported statistics imply that this distribution is positively skewed. Whether this
is due to it being a mixture distribution as conjectured by Asquith et al. (1998) is unclear from these statistics. We return to this issue
in Section 5.4.
3. Analysis: what explanatory variables are robust?
There are several methodologies in the econometrics and statistics literature for identifying relevant or robust explanatory
variables in a regression model. We use the ve most visible methodologies: the extreme bounds approach (EBA), the best subset ap-
proach, the least absolute shrinkage and selection operator (Lasso) approach, the weighted average least squares (WALS) approach,
and the Bayesian Model Averaging (BMA) approach. Because each of these procedures is documented in detail elsewhere, we sum-
marize each method and reference related literature. We begin our discussion with a consideration of model averaging approaches,
our preferred methods, and then discuss the other approaches. The next several subsections give an overview of the technical aspects
of the methods we use to identify which variables are robust determinants of IPO initial returns. The reader who is more interested in
the results and implications thereof may skip ahead to the end of Section 3.5 without loss of continuity.
3.1. Model averaging approaches
Increasingly economists use model averaging approaches to select a set of benchmark control variables because these approaches
address both model uncertainty and estimation. In this paper, we are uncertain about which of the possible explanatory variables
should be included in a model explaining IPO underpricing. With forty eight variables there are N = 248 possible models each of
which will likely lead to different coefcients associated with a particular explanatory variable.6 The underlying idea of model aver-
aging is that we use all of the information from each model Mi so that the estimate of ^ is
1
X
N
^
^
i 1
1 1;i
i1
3
See http://mba.tuck.dartmouth.edu/pages/faculty/ken.french/data_library.html.
4
The literature on the determinants of initial IPO returns is vast and there are numerous explanations of the average positive initial returns of IPOs. We do not survey
that literature here because Ibbotson and Ritter (1995), Ritter and Welch (2002) and Ljungqvist (2007) provide excellent summaries. Rather, we describe how we select
the variables for inclusion in our study.
5
The supplementary appendix is located at https://sites.google.com/site/mockeefe/Data. k

k
6
For a model with k possible explanatory variables the number of possible specication is equal to 2k .
i0 i
Table 1
Basic summary statistics.This table reports the number of observations, mean, standard deviation, 10th percentile, 50th percentile (median), and 90th percentile
for variables associated with a sample of U.S. IPOs from 1981 through 2007. The dataset is a matched sample between SDC New Issues Database, Compustat
Annual, and CRSP. We drop rms in the nancial industry with SIC codes between 60006999, rms with offer prices less than ve dollars, and unit offerings.
See Appendix A for variable denitions with data sources.
Variable Obs Mean SD 10th 50th 90th
First day return 5573 20.104 43.724 2.083 7.500 50.000

Ln of rm sales 5573 3.276 2.010 0.827 3.341 5.705
Offer price revision 5544 0.008 0.231 0.250 0.000 0.250
EBITDA to assets ratio 5561 0.039 1.826 0.567 0.138 0.357
Ln of expected IPO proceeds 5544 3.472 1.129 1.946 3.448 4.848
Ln of IPO rm age 5453 2.276 0.956 1.099 2.197 3.611
Ln of news stories 5572 2.083 1.179 0.693 1.946 3.664
Ln of number of IPO shares 5573 14.838 0.902 13.764 14.771 15.956
Long term debt to assets ratio 5563 0.264 0.444 0.000 0.135 0.644
Total liab to assets ratio 5564 0.760 0.715 0.274 0.688 1.132
Ln of total assets 5573 3.268 1.741 1.285 3.118 5.605
Avg undprcg in prv 30 days 5569 21.772 25.118 4.674 13.950 46.448
SD undprcg in prv 30 days 5442 21.107 20.732 6.224 14.692 59.641
Avg undprcg in prv month 5566 22.165 21.028 7.200 15.600 48.200
Ln nmbr of IPOs in prv 30 days 5566 3.685 0.661 2.708 3.829 4.431
Avg prc rvs in prv 30 days 5569 1.056 10.890 11.311 0.341 12.416
SD prc rvs in prv 30 days 5445 15.879 7.592 8.066 14.584 24.502
Prior 30 day CRSP EW index 5573 2.086 4.525 3.729 2.105 7.356
Stndrd dvt of CRSP EW index 5573 0.775 0.292 0.472 0.718 1.097
Ln(1 + shrs rtnd/shrs ofrd) 5533 1.249 0.455 0.718 1.224 1.823
Ln(1 + scd shrs ofrd/shrs ofrd) 5573 0.109 0.165 0.000 0.000 0.351
Ln(1 + scd shrs ofrd/shrs out) 5573 0.042 0.078 0.000 0.000 0.129
Investment bank reputation 5478 7.273 2.085 4.001 8.001 9.001
Investment bank market share 5573 4.895 6.765 0.115 2.396 12.533
Offer revision from orgnl ng 5544 0.073 0.113 0.250 0.000 0.000
Interim offer revision 5544 0.012 0.190 0.091 0.000 0.114
Offer revision from amnd ng 5573 0.007 0.144 0.000 0.000 0.036
Ln of days in regs 5570 4.176 0.673 3.611 4.127 4.942
Undr fee as a % of proceeds 5032 1.507 0.370 1.085 1.467 1.875
Selling fee as a % of proceeds 5528 3.983 0.711 3.150 4.000 4.571
Mngt fee as a % of proceeds 5123 1.483 0.566 1.094 1.407 1.739
Ln of inds mkt value to EBITDA 5465 2.693 0.694 1.951 2.550 3.606
Ln of ind SD mkt to EBITDA 5462 3.813 0.938 2.572 3.851 5.089
Ln inds mkt value to sales 5465 0.893 0.990 0.303 0.795 2.486
Ln inds SD mkt value to sales 5465 1.063 1.191 0.414 1.000 2.958
Ln price to sales ratio 5573 1.428 1.719 0.516 1.108 3.932
Prior 30 day industry rtrn 5465 2.153 6.872 5.965 2.167 10.190
Prior 30 day SD of industry rtrn 5465 1.158 0.560 0.619 1.020 1.863
Prior 30 day NASDAQ rtrn 5573 0.021 0.067 0.059 0.022 0.095
Prior 30 day SD of NASDAQ rtrn 5573 3.339 2.127 1.347 2.858 5.841
Ln of R&D to assets 5442 2.795 0.738 1.977 2.753 4.105
SDC high tech dummy 5573 0.521 0.500 0.000 1.000 1.000
Spin-off dummy 5573 0.075 0.263 0.000 0.000 0.000
Multi-class dummy 5573 0.069 0.253 0.000 0.000 0.000
VC backed dummy 5573 0.432 0.495 0.000 0.000 1.000
Pure primary dummy 5573 0.588 0.492 0.000 1.000 1.000
Multiple bookbuilder dummy 5573 0.056 0.229 0.000 0.000 0.000
NASDAQ dummy 5573 0.860 0.347 0.000 1.000 1.000
AMEX dummy 5573 0.031 0.172 0.000 0.000 0.000
NYSE dummy 5573 0.108 0.310 0.000 0.000 1.000
where i 0 are weights that add up to one. Each weight i represents a measure of condence in the model Mi. Thus, model
averaging allows a researcher to be uncertain about which of the N models is true.
Raftery et al. (1997), among others, develop and employ the Bayesian Model Averaging (BMA) method. The BMA method averages
across different regression models to derive information on the average coefcient of an explanatory variable and its variability.
Researchers use Bayesian methods to determine the weights in Eq. (2). This involves dening a prior distribution regarding the probability
that model i is the correct model p(Mi) and then estimating the marginal likelihood function given the observed data p(y|Mi) where
pM pyjM
i pMi jy XN i i 2
ji
p M j pyjM j
represents the posterior probability that model i is the correct model. The posterior probabilities sum to one and therefore meet the
requirements for weights in Eq. (1). There are two issues when identifying these weights. First, the number of possible models is huge.
Second, a researcher must use numerical techniques to solve Eq. (2).7 Accordingly, for a large number of possible explanatory
variables, full BMA estimation is infeasible. For example, De Luca and Magnus (2011) document that BMA estimation of a model
with 60 possible explanatory variables requires approximately one thousand years of computer time.
To address these computational issues, Magnus et al. (2010) augment the BMA method by distinguishing between focus and
auxiliary regressors. For example, to estimate BMA fully we need to estimate N = 248 models. If we reduce our set of variables to
seventeen focus regressors, then we need to estimate BMA using I = 2(48 17) = 231 models. Identifying seventeen focus variables
reduces the number of model estimations from over two hundred and eighty trillion to just over two billion. De Luca and Magnus
(2011) estimate the computing time associated with thirty auxiliary regressors as one hundred and fty three hours.
To identify the focus regressors, we use the method of weighted-average least squares (WALS). Magnus et al. (2010) develop
WALS as a computational efcient variation of the BMA approach. De Luca and Magnus (2011) rene the method using Stata. This
method, like the BMA method, calculates averages across different regression models to derive information on the average coefcient
of an explanatory variable and its variability. Thus, it jointly addresses model uncertainty and variable selection. However, it orthog-
onalizes the data in order to minimize the computational burden and it allows for a relaxed notion of ignorance (priors) about the
explanatory variables. We select variables under the WALS method if the t-statistic determined by the average coefcient estimate
is greater than or equal to two.8 We report in Table 2 seventeen explanatory variables that meet this requirement (robust variables
are denoted using an *).
As noted earlier, the full estimation of BMA is not feasible. To address this problem, we use variables from the WALS analysis that
were signicant at the 1% marginal signicance level as focus variables for our BMA analysis.9 Because our focus is not on predictive
accuracy, but on the selection of robust control variables, we are interested in the posterior inclusion probability (PIP) for each variable
in the BMA analysis. We report in Table 2 the variables where the PIP in the BMA analysis is greater than or equal to 95%.
3.2. The extreme bounds approach
Leamer (1985) was the rst to argue for examining the fragility or sensitivity of evidence to variation in specications with an
extreme bounds test. Essentially, Leamer's approach is to examine the sensitivity of the statistical signicance of an explanatory
variable under various specications. To implement his approach, we follow the procedure set out in Levine and Renelt (1992),
who were early adopters of Leamer's methodological approach.
Levine and Renelt (1992) study the determinants of economic growth, identifying a set of explanatory variables that purport to
explain the cross-section of country-level economic growth. For computational reasons, they break their set of explanatory variables
into three subsets: variables that will be used in every specication, a variable that is the object of study, and variables that are system-
atically selected from the set of explanatory variables not contained in the rst two sub-sets. They compute lower and upper bounds
for each regression coefcient as ^ 2 ^ 2
^ z; j and ^ z; j , respectively, where j is a regression index and z is the variable under
z; j z; j
study. Under the extreme bounds test, Levine and Renelt (1992) deem a variable robust if the sign of the coefcient, ^ , does not
z; j
change within two standard deviations of the mean coefcient estimate for each of the M regressions (i.e., jM).
We apply these methods to our empirical setting as follows. We estimate a series of regression models of the following
form:
Initial Return j Aa; j Zz; j Xx; j for j 1 2M 3
where A represents explanatory variables used in all of the regressions, Z represents the variable of interest, and X represents M

M1 10
subsets of three variables taken from the remaining known explanatory variables where M . In our specication, the
3
A variables used in every regression are Ln of Firm Sales and Offer Price Revision Range, as the overwhelming majority of studies we
examined used these variables and found them to be statistically signicant.
After choosing our two A variables, we then select a variable of interest Z from the remaining 46 variables. For each possible com-
bination of three variables from the remaining 45 variables, we estimate Eq. (3). From each regression we estimate, we retain both the
coefcient estimates and the heteroskedasticity robust standard errors. We continue the process for all 46 variables. In Table 2, we
report the eight variables that are judged to be robust according to this method. The reduced number of robust variables identied
using EBA relative to model averaging is consistent with the critique of Levine and Renelt (1992).
7
Solving p(y|Mi) involves using a numerical method to solve a complex integral, which must be estimated for each model. See Hoeting et al. (1999) for a tutorial on
Bayesian Modeling Average.
8
One objective in using WALS is to identify focus variables for BMA estimation. Thus, rather than use De Luca and Magnus' (2011) criterion of deeming a variable
robust if the t-statistic greater than or equal to one, we deem a variable as robust if the t-statistic is greater than or equal to two. We further restrict the variables used
as focus variables in the BMA analysis to variables that are statistically signicance in the WALS estimation at less than or equal to the 1% level. This approach increases
the number of variables we include as auxiliary variables in BMA estimation while also being computationally feasible. Accordingly, any variable with a t-statistic be-
tween one and two is treated as an auxiliary variable in our BMA estimation.
9
More specically, variables denoted as 1 through 10 in WALS Column of Table 2 are treated as focus variables in the BMA analysis.
10
For reasons discussed in Levine and Renelt (1992), we follow them and choose M subsets of 3 variables.
Table 2
Variable Selection Results for the whole sample period.This table shows the results of applying the EBA, the Best Sub-set, the Lasso, the WALS, and the BMA approaches to
variables selection to OLS regressions intended to explain initial IPO returns. Variable denitions are provided in Appendix A. The rank order of importance of the variable
is identied for those methodologies that permit such identications, otherwise a star (*) is used to identify whether a variable is robust under a particular method.
EBA Best subset Lasso WALS BMA
Ln of rm sales 16 *
Offer price revision * * 1 1 *
EBITDA to assets ratio
Ln of expected IPO proceeds
Ln of IPO rm age
Ln of news stories * * 7 3 *
Ln of number of IPO shares
Long term debt to assets ratio
Total liab to assets ratio 13 17 *
Ln of total assets * 15
Investment bank market share * 11 5 *
Avg undprcg in prv 30 days * * 2 8 *
Avg undprcg in prv month
Ln nmbr of IPOs in prv 30 days
Avg prc rvs in prv 30 days * 17 6 *
Prior 30 day CRSP EW index 16 4 *
Stndrd dvt of CRSP EW index
Ln(1 + shrs rtnd/shrs ofrd) * * 5 13 *
Ln(1 + scd shrs ofrd/shrs ofrd)
Ln(1 + scd shrs ofrd/shrs out) 15
Investment bank reputation *
Offer revision from orgnl ng * * 9 2 *
Interim offer revision
Offer revision from amnd ng * 20
Ln of days in regs
Undr fee as a % of proceeds
Selling fee as a % of proceeds 21
Mngt fee as a % of proceeds
Ln of inds mkt value to EBITDA
Ln of ind SD mkt to EBITDA
Ln inds mkt value to sales 4 11 *
Ln inds SD mkt value to sales
Ln price to sales ratio 6 14 *
Prior 30 day industry rtrn 12 10 *
Prior 30 day SD of industry rtrn * * 8 9 *
Prior 30 day NASDAQ rtrn * 10 7 *
Prior 30 day SD of NASDAQ rtrn 19
SD undprcg in prv 30 days 3
SD prc rvs in prv 30 days 12
SDC high tech dummy
Spin-off dummy
Multi-class dummy
VC backed dummy
Pure primary dummy 17
Multiple bookbuilder dummy
NASDAQ dummy 14
AMEX dummy
NYSE dummy
3.3. The best-subset approach
One objective of variable selection is to choose the subset of explanatory variables that best balances goodness of t against model
complexity. Information criteria help researchers to evaluate models against both goodness of t and complexity. For example,
Adjusted R2 contains a penalty for the number of explanatory variables in the model and so both explain goodness of t and model
complexity. Other information criteria include: Akaike's Information Criterion (AIC), Bayesian Information Criteria (BIC) and Mallow's
Cp (Akaike, 1974; Mallows, 1973; Schwarz, 1978). Consider the case of ten possible explanatory variables, which implies 1024 possible
subsets of explanatory variables. Using AIC as the information criteria, the researcher estimates all 1024 specications and chooses the
subset of variables with the lowest AIC.
As the number of possible explanatory variables increases, the above approach becomes impractical. For twenty explanatory
variables there are over one million possible specications; for twenty ve explanatory variables there are over thirty three billion
possible specications; and for forty explanatory variables there are over one trillion possible specications. Alternatives to estimating
all possible regressions include forward selection, backward elimination, and other more computationally efcient algorithms such as
the leaps and bound algorithm.
We discuss these different approaches assuming ten explanatory variables and AIC as the information criteria. In the Lindsey and
Sheather (2010) iterative method of forward selection, the regression is rst estimated using only the intercept term and the associ-
ated AIC is calculated. Next the regression is estimated for each of the ten explanatory variables and the associated AIC calculated for
each of the ten models. The explanatory variable from the model with the lowest AIC is selected. The updated model is then estimated
using each of the nine remaining variables. This process continues until the addition of a variable increases the AIC, which represents
the point where the addition of another explanatory variable yields a benet as measure by goodness of t that is less than the cost of
model complexity. Thus, the subset of explanatory variables is identied.
Using the Lindsey and Sheather (2010) method of backward elimination involves rst estimating with all explanatory variables
and then iterating backwards by eliminating variables that provide the best improvement in information criteria. Using our example,
the model is rst estimated using all ten explanatory variables and the associated AIC is calculated. Next, each explanatory variable is
dropped, the model estimated, and the associated AICs are calculated for all ten regressions. The variable with the model from the
regression with the lowest AIC is dropped. The process continues until the lowest AIC is reached. There is no guarantee that forward
selection and backwards elimination yield the same model; however the computational burden is greatly reduced relative to
estimating all possible subsets of variables.11
In contrast to forward selection and backward elimination, the leaps and bounds algorithm of Furnival and Wilson (1974) uses a
tree structure of possible models. Using the t-statistics associated with an estimation using all possible explanatory variables, the
algorithm leaps over models that are not optimal, resulting in a more computationally efcient method than either forward selection
or backward elimination. Using Lindsey and Sheather's (2010) implementation in Stata, we identify a subset of explanatory variables
using the leaps and bounds algorithm and AIC as the information criteria.
In Column 3 of Table 2 we report the best subset of possible explanatory variables identied by the leaps and bounds algorithm.
Ten variables were identied and are denoted by a *. Six out of these ten variables match the results of the EBA method. This out-
come is not unexpected because the EBA method measures the stability of coefcient signs and signicance across specications,
whereas the best subset method denes the set of variables that both best t the data and minimize model complexity. Because
best subset methods identify parsimonious specications with the objective of improving forecasting accuracy, these specications
could suffer from omitted variable bias, making the interpretation of the coefcients suspect. Overall, both EBA and best subset
methods tend to be very exclusive in terms of variables that are deemed robust.
3.4. The Lasso approach
Efron et al. (2004) characterize the classical forward selection methods as overly greedy and motivate their assessment by
reviewing the classical forward stepwise method. In the rst step, the dependent variable y is regressed on the explanatory variable
xj with which it has the largest correlation coefcient. Next the residuals from the regression y = + jxj where ^r y ^ ^ x j are
j
estimated. The residuals ^r are orthogonal to xj, implying variables that are highly correlated with xj are likely not highly correlated with
^r : In the next step, the estimated residuals ^r are regressed on the explanatory variable with which ^r has the highest correlation coef-
cient. Thus, explanatory variables that are highly correlated with xj are likely dropped from the model at this stage. The process is
repeated until a set of predictor variables is identied. Because the forward selection likely drops correlated variables, Efron et al.
(2004) note that in this process correlated explanatory variables may be eliminated.
To address the issue of dropping correlated variables, Tibshirani (1996) develops the least absolute shrinkage and selection oper-
ator (Lasso) method of variable selection. More specically, the Lasso procedure ts a linear model: y ^ 0 1 x1 p xp using
N 2 p
the criterion: minimize y j y ^ subject to j t where t is a tuning parameter. The tuning parameter restricts the size of the
j1 i1
p
coefcients. If the tuning parameter t is very large, then the constraint j t does not bind and the Lasso procedure is equivalent
i1
to the OLS estimator. If the tuning parameter t is small, then the Lasso procedure shrinks some of the OLS coefcients toward zero. As
the tuning parameter is increased a path of Lasso solutions is identied.
Efron et al. (2004) develop the Least Angle Regression (LARS) algorithm and show with slight modications that it identies equiv-
alent estimates as the Lasso algorithm. Procedurally the LARS algorithm starts exactly as classical forward stepwise estimation the
explanatory variable with the largest correlation coefcient with the explanatory variable is identied. However, the coefcient esti-
mate ^ is moved from zero in the direction of the sign of the correlation coefcient until the point where the correlation coefcients of
j
the residuals ^r y ^ x j with xj and another variable xk are equal. The process is repeated with both
^ ^ and ^ moving along the
j j k
least angle direction of their signs until another variable is identied with an equal correlation coefcient with the residuals. As with
the Lasso method, LARS identies a path of possible solutions. To identify the best constrained set of coefcients, Efron et al. (2004) use
Mallow's Cp information type criteria.
In Table 2, we identify the variables that enter the optimal model according to the Cp criterion, which implicitly sets the tuning
parameter in Lasso. Consistent with the idea that Lasso is a less greedy algorithm, the number of identied variables increases from
ten in the best subset approach to twenty one using Lasso. In addition, the method provides the order by which the variables enter
the model. Intuitively, for a very small tuning parameter only the rst variable Offer Price Revision enters the model. Based on the
11
With ten possible explanatory variables, forward selection decreases the number of regression runs from 1024 to a maximum of 56.
Cp information criteria the last variable to enter is Selling Fee as a % of Proceeds. The stopping point of the algorithm is consistent with
minimizing the Mean Squared Error (MSE) of the regression or alternatively maximizing prediction accuracy.
3.5. Selection among variable selection methods
To evaluate the most appropriate method for determining the robust set of explanatory variables, we review the objective of the
method and potential issues. First, Best Subset and Lasso are oriented to produce a specication that minimizes the mean squared
error when the model is used for prediction. The Best Subset method leads to a very parsimonious specication while the Lasso meth-
od shrinks coefcients, which eliminates the ability to infer the economic importance of a variable. Second, while EBA identies robust
variables, Ericsson (2008) points out that EBA does not discriminate between the reasons for coefcient changes.
Our objective, however, is on identifying a benchmark specication that can be used for hypothesis testing across different data
sets and specications, which is why we emphasize our results from model averaging methods. Nevertheless, we report these other
approaches because they serve as a check on our WALS and BMA evidence. In order to generate BMA evidence, given computational
limitations, we need to identify focus and auxiliary variables. As mentioned earlier, we use the variables identied by the WALS
method as robust and signicant at the 1% marginal signicance level to serve as the focus variables for our BMA analysis. To
determine if our BMA evidence is driven by our choice of focus variables, we repeat our BMA analyses but select the focus variables
as those identied as robust by the EBA, Best Subset and Lasso approaches. In each case, we nd similar sets of robust variables.
The fact that the BMA method derives similar sets using the variables identied by each of these alternatives as focus variables
gives us more condence that our results are not just being driven by our choice of focus variables.12
Based on the objective of our study, we focus our subsequent attention on the WALS and BMA methods. These methods generate a
set of controls that minimize the chance of omitting an important control variable, one of our chief concerns. BMA and WALS also are
increasingly used in our type of study. These methods, however, do not consider different functional forms and so are exposed to
criticism on this basis. Because prior IPO empirical research has overwhelmingly assumed a linear regression model for these data,
we assume such in our study and leave this issue for future research.
If we select the set of variables that are robust according to both WALS and BMA, then our recommended set of control variables
are: Ln of Firm Sales, Offer Price Revision, Ln of News Stories, Total Liabilities to Assets ratio, Investment Bank Market Share, Average
Underpricing in Previous 30 Days, Average Percentage Revisions in Previous 30 Days, Prior 30 Day CRSP EW Index, Ln of one plus the
ratio of secondary shares retained to shares offered, Offer Revision from Original Filing date when they are negative, Ln of industry market
value to sales ratio, Ln of the offer price to sales ratio, Prior 30 Day Industry Return, Prior 30 Day standard deviation of Industry return, and
the Prior 30 Day NASDAQ Return.
4. The implications of IPO regimes for our full sample evidence
The above analysis uses data over our whole sample period. Because prior research suggests that there are IPO cycles, we next in-
vestigate whether our robust set explanatory variables across the entire sample omits a variable that is robust within a specic time
period. Again, the purpose of our study is to identify a set of control variables for use in future studies. Thus, our set of controls must
include the most relevant factors, regardless of time period. We ask whether there are variables that we did not identify as robust for
the full sample that are robust for a particular time period within our sample period.
4.1. Determination of IPO regimes
Just as there are different methodologies for identifying what variables are robust within a sample, there are different methodol-
ogies for identifying regime changes (structural breaks). We approach this issue in two different ways: one statistical and one based
on prior research.
For the statistical approach, we use one of the most well developed methods for identifying regime changes (structural breaks):
Bai and Perron (1998, 2003).13 Using average initial IPO returns by year, we use the approach described in Bai and Perron (2003)
to identify break points within our whole sample period. Based on the signicance of the Schwartz criterion, the LWZ criterion,
UDMax statistic, and the WDMax statistic, there are two structural break points within our sample period and so three different
regimes. These regimes are: 19811998, 19992001, and 20022007, and are denoted as Statistically Identied Regimes.
For the prior research approach, we use the regimes identied in Loughran and Ritter (2004) and Gao et al. (2013) and
name them Ritter Identied Regimes. These two studies imply that our sample period should be broken into sub-periods:
1981 to 1989, 1990 to 1998, 1999 to 2000, and 2001 to 2007. The major difference between these periods and the periods
identied by the above statistical methods is Loughran and Ritter breakup the time 1981 to 1998 into two periods: 1981 to
1989 and 1990 to 1998.
12
The differences are due to whether sales or assets are used as focus variables because either is arguably a reasonable rm size proxy.
13
We thank our referee for recommending this approach.
Table 3
BMA variable selection results by IPO regime.The table reports BMA results by regime. Statistical regimes were identied by the Bai and Perron (2003) analyses. Ritter
identied regimes were identied in Loughran and Ritter (2004) and Gao et al. (2013). Variables denoted by F are focus variables and represent the variables iden-
tied as robust in the full sample, whereas variables denoted by A are auxiliary variables identied as robust within a regime.
Statistically identied regimes Ritter identied regimes
19811998 19992001 20022007 19811989 19901998 19992000 20012007
Ln of rm sales F F F F F F F
Offer price revision F F F F F F F
EBITDA to assets ratio
Ln of expected IPO proceeds
Ln of IPO rm age
Ln of news stories F F F F F F F
Ln of number of IPO shares
Long term debt to assets ratio
Total liab to assets ratio F F F F F F F
Ln of total assets
Investment bank market share F F F F F F F
Avg undprcg in prv 30 days F F F F F F F
Avg undprcg in prv month
Ln nmbr of IPOs in prv 30 days
Avg prc rvs in prv 30 days F F F F F F F
Prior 30 day CRSP EW index F F F F F F F
Stndrd dvt of CRSP EW index
Ln(1 + shrs rtnd/shrs ofrd) F F F F F F F
Ln(1 + scd shrs ofrd/shrs ofrd)
Ln(1 + scd shrs ofrd/shrs out)
Investment bank reputation
Offer revision from orgnl ng F F F F F F F
Interim offer revision
Offer revision from amnd ng
Ln of days in regs
Undr fee as a % of proceeds
Selling fee as a % of proceeds
Mngt fee as a % of proceeds
Ln of inds mkt value to EBITDA
Ln of ind SD mkt to EBITDA
Ln inds mkt value to sales F F F F F F F
Ln inds SD mkt value to sales
Ln price to sales ratio F F F F F F F
Prior 30 day industry rtrn F F F F F F F
Prior 30 day SD of industry rtrn F F F F F F F
Prior 30 day NASDAQ rtrn F F F F F F F
Prior 30 day SD of NASDAQ rtrn
SD undprcg in prv 30 days
SD prc rvs in prv 30 days
SDC high tech dummy
Spin-off dummy
Multi-class dummy
VC backed dummy
Pure primary dummy
Multiple bookbuilder dummy
NASDAQ Dummy
AMEX dummy
NYSE dummy
4.2. Robust explanatory variables within regimes
Using the above two identications of regimes within our sample period, we now examine whether we would identify any new
variables as robust within each of the regimes identied by the two approaches. We are asking whether there are other variables
that are important during certain regimes that we have missed in our set of focus variables.
In Table 3 we report the results of applying the BMA method to each sub-period under each of the two identications while treating
our previously identied robust variables as focus variables. We do the same using the WALS method. Since we derive similar results we
only report those for the BMA method. The reported results suggest that our benchmark specication captures all potentially important
variables as no others are identied as a robust determinant of initial IPO returns during any of the different sub-periods or regimes
identied by these approaches.14 Moreover, we nd that the signs of our selected control variables remain the same across sub-periods.
14
If we repeat our earlier process for each regime, we do nd different variables that are robust within certain regimes and not others. But the combination of these
variables across regimes is equivalent to our focus set. Because our purpose is to identify a set of control variables that researchers can use in the future, the combined list
is most appropriate because future researchers may combine data across more than one regime.
Table 4
Parsimonious linear regressions.This table reports estimation results of IPO initial return on all of the variables that are deemed robust. Variable denitions are pro-
vided in Appendix A. All variables are standardized to facilitate economic interpretation. Standard errors are reported in parenthesis below the coefcient estimates.
Column (1) reports standard errors under the assumption of independent and identically distributed errors (i.e. homoskedastic errors). Column (2) uses the White
Huber (sandwich estimator) method which assumes independent but not identically distributed errors (i.e. heteroskedastic errors). Columns (3) and (4) reports bias
adjusted WhiteHuber standard errors. Column (5) reports bootstrapped standard errors. Column (6) reports standard errors under the assumption of neither inde-
pendent nor identically distributed errors (i.e. heteroskedastic with correlated errors by year). *, **, and *** denote signicance at the 10%, 5%, and 1% levels, respectively.
(1) (2) (3) (4) (5) (6)
Explanatory variables Not robust White HC2 HC3 Bootstrap Cluster year
Ln of rm sales 0.181*** 0.181*** 0.181*** 0.181*** 0.181*** 0.181***

(0.024) (0.027) (0.028) (0.028) (0.028) (0.037)
Offer price revision 0.558*** 0.558*** 0.558*** 0.558*** 0.558*** 0.558***
(0.016) (0.075) (0.078) (0.081) (0.079) (0.084)
Ln of news stories 0.081*** 0.081*** 0.081*** 0.081*** 0.081*** 0.081***
(0.013) (0.017) (0.017) (0.017) (0.014) (0.027)
Total liab to assets ratio 0.029*** 0.029*** 0.029** 0.029** 0.029*** 0.029*
(0.010) (0.011) (0.011) (0.012) (0.011) (0.014)
Investment bank market share 0.067*** 0.067*** 0.067*** 0.067*** 0.067*** 0.067**
(0.012) (0.016) (0.016) (0.016) (0.016) (0.031)
Avg undprcg in prv 30 days 0.271*** 0.271*** 0.271*** 0.271*** 0.271*** 0.271***
(0.019) (0.030) (0.030) (0.030) (0.033) (0.041)
Avg prc rvs in prv 30 days 0.098*** 0.098*** 0.098*** 0.098*** 0.098*** 0.098**
(0.016) (0.020) (0.020) (0.020) (0.018) (0.041)
Prior 30 day CRSP EW index 0.070*** 0.070*** 0.070*** 0.070*** 0.070*** 0.070***
(0.014) (0.021) (0.022) (0.022) (0.019) (0.023)
Ln(1 + shrs rtnd/shrs ofrd) 0.115*** 0.115*** 0.115*** 0.115*** 0.115*** 0.115***
(0.012) (0.018) (0.018) (0.018) (0.017) (0.037)
Offer revision from orgnl ng 0.212*** 0.212*** 0.212*** 0.212*** 0.212*** 0.212***
(0.015) (0.049) (0.050) (0.052) (0.051) (0.038)
Ln inds mkt value to sales 0.029** 0.029* 0.029* 0.029* 0.029* 0.029**
(0.013) (0.016) (0.016) (0.016) (0.015) (0.011)
Ln price to sales ratio 0.085*** 0.085*** 0.085*** 0.085*** 0.085** 0.085***
(0.026) (0.032) (0.033) (0.033) (0.035) (0.026)
Prior 30 day industry rtrn 0.056*** 0.056*** 0.056*** 0.056*** 0.056** 0.056**
(0.014) (0.021) (0.021) (0.021) (0.023) (0.026)
Prior 30 day SD of industry rtrn 0.071*** 0.071*** 0.071*** 0.071*** 0.071*** 0.071***
(0.012) (0.015) (0.015) (0.016) (0.014) (0.017)
Prior 30 day NASDAQ rtrn 0.086*** 0.086*** 0.086*** 0.086*** 0.086*** 0.086***
(0.016) (0.021) (0.021) (0.021) (0.018) (0.013)
Constant 0.001 0.001 0.001 0.001 0.001 0.001
(0.010) (0.010) (0.010) (0.010) (0.010) (0.014)
Observations 5,382 5,382 5,382 5,382 5,382 5,382
Adjusted R-square 0.455 0.455 0.455 0.455 0.455 0.455
Thus, our recommended set of control variables are: Ln of Firm Sales, Offer Price Revision, Ln of News Stories, Total Liabilities to Assets
ratio, Investment Bank Market Share, Average Underpricing in Previous 30 Days, Average Percentage Revisions in Previous 30 Days, Prior 30
Day CRSP EW Index, Ln of one plus the ratio of secondary shares retained to shares offered, Offer Revision from Original Filing date when they
are negative, Ln of industry market value to sales ratio, Ln of the offer price to sales ratio, Prior 30 Day Industry Return, Prior 30 Day standard
deviation of Industry return, and the Prior 30 Day NASDAQ Return.
5. Statistical signicance and economic implications of our evidence
5.1. Statistical signicance
Thus far we have focused on identifying robust variables in our sample data. We now turn to the statistical signicance and eco-
nomic importance of the evidence. In Table 4, we report the results of estimating a regression on initial IPO return using the previously
identied set of robust explanatory variables.15 This regression explains 45.5% of the variation in initial IPO returns from 1981 through
2007, which is higher than most published regression models.16
In selecting robust variables, we relied upon the WALS and BMA estimators, which assume homoskedastic errors in the residuals.
Due to the skewed initial return distribution, the assumption of homoskedastic errors produces downward biased standards errors,
15
The mean variance ination factor (VIF) is 2.53 and the highest VIF is 6.6, which implies (given a benchmark of 10) that multicollinearity is not a serious issue with
this regression despite the fact that some of these variables represent different market returns. What this evidence implies is that the different market returns are cap-
turing sources of heterogeneity in stock returns.
16
For example, Hanley (1993) reports an Adjusted R-squared of 17.8%, Lowry and Schwert (2002) report an R-squared of 17.7%, Lowry and Schwert (2004) report an
R-squared of 22.3%, and Loughran and Ritter (2004) report an Adjusted R-squared of 29.0%.
which works toward being too inclusive, denoting a variable as robust variable when it is not robust. To address this issue, Table 4
reports estimation results using different assumptions about the residuals in the error term.
To establish a benchmark, Column (1) of Table 4 reports standard errors under the assumption of independent and identically dis-
tributed errors (i.e. homoskedastic errors). The evidence from Column (1) suggests fourteen of the fteen robust variables are signif-
icant at less than the 1% level. Column (2) uses the method of Huber (1967) and White (1980) which assumes independent but not
identically distributed errors (i.e. heteroskedastic errors). Columns (3) and (4) report bias adjusted HuberWhite errors using the
methods of MacKinnon and White (1985). Column (5) reports bootstrapped standard errors. Column (6) reports standard errors
under the assumption of neither independent nor identically distributed errors (i.e. heteroskedasticity with correlated errors by year).
Regardless of the method we use to compute standard errors, our conclusions change very little. In some cases, the statistical sig-
nicance of Total Liabilities to Asset Ratio weakens to the 5% level, and in some cases Ln Inds Mkt Value to Sales is statistically signicant
at 10%. Column (6) reports that robust cluster standard errors are the largest of these methods. Overall, although the standard errors
increase as we account for heteroskedasticity with correlated errors, all of the variables remain statistically signicant.
5.2. Economic magnitude of the selected variables
To understand the economic magnitude of the variables, we standardize our explanatory variables and the dependent variable to
have zero mean and unit variance. Hence the regression coefcients have an easy economic interpretation: a one standard deviation
increase in a variable with coefcient impacts the initial return by standard deviations, on average. Examining Table 4, it appears
that the Offer Price Revision, Average Underpricing in the Previous 30 Days, Negative Offer Price Revision, Ln of Firm Sales and the Ln of 1
plus the ratio of shares retained over shares offered have the greatest effects on initial IPO returns.
5.3. Implications of our evidence for theoretical models of IPO clustering and underpricing
The robust explanatory variables that we identify have a number of interesting implications for prior IPO research. First, many of the
variables that gure prominently in prior studies do not appear to be robust when a larger set of explanatory variables are considered.
For example, we nd investment bank market share (as in Megginson and Weiss, 1991) is robust, but not investment banker ranking
(as in Carter and Manaster, 1990). Further, whereas venture capital backing may exercise some inuence at the margin, its inuence is
not of rst order importance. Similarly, we nd no evidence that dual class IPOs are underpriced differently than other rms.
Second, our evidence supports Ritter and Welch's (2002) argument that IPO initial returns cannot be explained solely by asymmet-
ric information stories (e.g., Rock, 1986). Unlike Lowry and Schwert (2004), we nd that information on prior IPOs and publicly avail-
able information prior to the IPO offer date exercise considerable inuence on initial IPO returns. Although asymmetric information
issues might exercise some inuence on the pricing of an IPO, it is clear that other inuences are also important.
Third, our evidence raises questions about informational spillover stories for clustering in IPO offerings. Theoretical models like Alti
(2005) explain the clustering of IPOs over time by variations of the argument that early IPOs convey private information that reduces
the cost to subsequent IPOs, particularly of rms within the same industry. According to this theory, one should not expect initial IPO
returns to be positively correlated with prior IPO returns. After all, the logic of these models is that private information is being re-
vealed by early or pioneer IPOs, resulting in reduced costs to subsequent rms that go public in the form of higher offer prices, and
thereby lower underpricing. Our evidence contradicts this explanation. Although initial IPO returns are negatively correlated with av-
erage percentage revisions of IPO offer prices over the prior 30 days, this effect is dwarfed by the positive effect of average
underpricing over the previous 30 days. Together this evidence suggests that more is at play than spillovers of private information.
This interpretation is reinforced by the fact that the Prior 30 Day CRSP EW Index, Prior 30 Day Industry Return, Prior 30 Day standard
deviation of Industry return, and Prior 30 Day NASDAQ Return are robust determinants of initial IPO returns. These factors suggest that
the underpricing of IPOs in the current period reects equity market conditions at the time the rm goes public. These measures may
broadly reect aspects of investor sentiment, and so are consistent with Derrien (2005) and Ljungqvist et al. (2006). Moreover, un-
derwriters with larger market shares are associated with greater underpricing. This evidence is consistent with the implication of
Ljungqvist et al.'s (2006) model that active underwriters will be associated with greater underpricing (Ljungqvist and Wilhelm, 2003).
Our results are also consistent with Pastor and Veronesi's (2005) view that productivity shocks are important, as equity market
conditions may reect productivity shocks. The signicance of the Ln of industry market value to sales ratio, Prior 30 Day Industry Return,
Prior 30 Day standard deviation of Industry return variables, all of which reect the market's assessment of the future prospects (and its
uncertainty) of the rm's industry, supports this interpretation.
5.4. Examples of why a benchmark specication is important
We have focused on identifying a robust set of variables to explain initial IPO returns for two reasons. First, as discussed above, such
a set of variables tells us something about which theories of IPO underpricing and clustering appear most important. Second, such a set
of variables provides a useful set of controls or a benchmark specication by which one can judge the relative merits of different ar-
guments about what inuences IPO underpricing, because omitting relevant control variables can bias estimates of the importance of
other factors. To demonstrate the importance of this second reason, we consider two examples.
In our above analysis, we nd the dummy variable capturing whether the IPO is a dual class IPO or not is not a robust explanatory
variable: our BMA analysis reveals that the probability of including the Multi-Class Dummy is small, around 0.03. This nding is
important because it speaks to the debate over the empirical relevance of variation in corporate control on IPO underpricing
Table 5
Re-examining the evidence on different arguments using a robust set of controls.This table shows the results of estimating different regression models to address se-
lected arguments in prior research Sandwich estimators of the standard errors were used (except for the mixture of normal distributions model) and p-values associ-
ated with the null hypothesis of the coefcient equaling zero are reported within parentheses. *, **, and *** denote signicance at the 10%, 5%, and 1% levels, respectively.
(1) (2) (3) (4)
Censored Mixture of normals Linear
Explanatory variables Normal Component 1 Component 2 Regression
Multi-class dummy 0.156 0.010 0.085

(0.096) (0.014) (0.223)
VC backed dummy 0.000
(0.025)
Ln of rm sales 0.310*** 0.017* 0.307*** 0.181***
(0.065) (0.009) (0.116) (0.028)
Offer price revision 0.681*** 0.417*** 0.347*** 0.558***
(0.095) (0.015) (0.044) (0.076)
Ln of news stories 0.191*** 0.020*** 0.173*** 0.081***
(0.038) (0.005) (0.061) (0.017)
Total liab to assets ratio 0.045 0.013*** 0.044 0.029***
(0.041) (0.004) (0.037) (0.011)
Investment bank market share 0.062** 0.000 0.115** 0.067***
(0.028) (0.005) (0.046) (0.016)
Avg undprcg in prv 30 days 0.350*** 0.025*** 0.357*** 0.271***
(0.046) (0.008) (0.068) (0.030)
Avg prc rvs in prv 30 days 0.135*** 0.018*** 0.140** 0.098***
(0.039) (0.006) (0.067) (0.020)
Prior 30 day CRSP EW index 0.048 0.004 0.117** 0.070***
(0.039) (0.006) (0.052) (0.021)
Ln(1 + shrs rtnd/shrs ofrd) 0.222*** 0.006 0.375*** 0.115***
(0.039) (0.004) (0.057) (0.018)
Offer revision from orgnl ng 0.146* 0.165*** 0.099 0.212***
(0.087) (0.009) (0.071) (0.049)
Ln inds mkt value to sales 0.021 0.002 0.173*** 0.029*
(0.036) (0.005) (0.059) (0.016)
Ln price to sales ratio 0.017 0.009 0.003 0.085***
(0.074) (0.010) (0.125) (0.032)
Prior 30 day industry rtrn 0.096** 0.011* 0.133** 0.056***
(0.039) (0.006) (0.060) (0.021)
Prior 30 day SD of industry rtrn 0.172*** 0.014** 0.137*** 0.071***
(0.032) (0.005) (0.051) (0.015)
Prior 30 day NASDAQ rtrn 0.175*** 0.032*** 0.191*** 0.086***
(0.045) (0.007) (0.066) (0.021)
Constant 1.069*** 0.185*** 0.394*** 0.001
(0.075) (0.005) (0.060) (0.016)
Observations 5382 5382 5382 5382
Pseudo R-square 0.238
Adjusted R-square 0.455
(e.g., Brennan and Franks, 1997; Stoughton and Zechner, 1998). Here the issue is whether insiders who control the rm have an
incentive to either signicantly underprice or not their stock to either insure a diffuse or concentrated shareholdings by out-
siders. Smart and Zutter (2003, 2008) use whether a rm has dual class stock or not to test these arguments and nd evidence
in support of Brennan and Frank's argument; Arugaslan et al. (2004) do not. However, these studies do not use the same control
variables, and Smart and Zutter (2008) do not include most of the variables we nd to be robust explanatory variables. These
differences are important because corporate control-related variables could be correlated with the omitted robust explanatory
variables.
To explore this issue further, we follow Smart and Zutter (2008) and estimate two statistical models of IPO returns: Ruud's (1993)
censored normal model and Asquith et al.'s (1998) mixture of normals model. In each of these statistical models, we use our robust set
of explanatory variables along with the Multi-Class Dummy variable, which is their focus variable. These results are reported in Col-
umns 1, 2 and 3 of Table 5.17 The results from either regression model do not support the assertion that dual class IPOs are underpriced
differently than single class IPOs. Thus, the evidence based on the Multi-Class Dummy variable does not support either Brennan and
Franks' (1997) or Stoughton and Zechner's (1998) control arguments for IPO underpricing.
For our second example, we address the debate over whether being backed by a venture capital rm is associated with greater or
lesser IPO underpricing. Megginson and Weiss (1991) document that venture capital backed IPOs are less underpriced than non-
17
The pseudo R2 for the censored regression drops to 23.8%. When compared to the t for the linear regression in Table 5, this suggests that it is not an appropriate
model for these observations.
venture backed IPOs, arguing that venture capitalists play a certication role when a rm goes public. In contrast, Francis and Hasan
(2001) and Lee and Wahal (2004) nd that venture capital backed IPOs are more severely underpriced than non-venture capital
backed IPOs. As the above example illustrates, both of these results can arise simply because the authors did not use the same bench-
mark specication in testing their arguments.
To re-examine this issue using our proposed benchmark specication, we estimate a linear regression model incorporating the VC
Backed dummy and our benchmark set of controls and report the results in Column 4 of Table 5. These results imply that being backed
by a venture capital rm is not signicantly correlated with whether the rm's IPO is more or less underpriced. This conclusion is con-
sistent with our not nding this variable to be a robust explanatory variable, and suggests that the role of venture capitalists is not as
inuential in the underpricing of IPOs as either side of the debate suggests.
Before closing we note that we draw the same conclusions for the above issues if we use any other set of robust explanatory
variables that we identied based on alternative methodologies. Further, we derive the same conclusions if we relax our implicit
data generating assumption and estimate median regressions.
6. Summary
The literature on IPOs is rich with studies exploring the empirical determinants of the cross section and time series of initial
IPO returns (i.e., IPO underpricing). Because most of the studies rarely use the same control variables in establishing the statis-
tical signicance of their variable or variables of interest, it is difcult for researchers to know whether a variable is truly mean-
ingful or simply appears to be due to omitted variable bias. We provide a benchmark specication for future researchers. In
doing so, we also provide robust evidence on the empirical importance of some arguments about why IPOs are either
underpriced or cluster in time.
We identify from a starting set of forty-eight possible variables the following variables as appropriate variables to include in a base-
line regression: Ln of Firm Sales, Offer Price Revision, Ln of News Stories, Total Liabilities to Assets ratio, Investment Bank Market Share,
Average Underpricing in Previous 30 Days, Average Offer Price Revision in Previous 30 Days, Prior 30 Day CRSP EW Index, Ln of one plus
the ratio of secondary shares retained to shares offered, Offer Revision from Original Filing date when negative, Ln of industry market
value to sales ratio, Ln of the offer price to sales ratio, Prior 30 Day Industry Return, Prior 30 Day standard deviation of Industry return,
and the Prior 30 Day NASDAQ Return. Because these variables are robust determinants of IPO initial returns, researchers should include
them in future studies to minimize the risk of omitted variable bias arising from excluding a relevant control variable that is correlated
with a regressor of interest.
Appendix A. Variable denitions
This appendix lists all variables used in the study. Column 1 provides the variable name. Column 2 describes how the variable was
constructed and provides the variable name from the associated data source. Column 3 provides the data source. Column 4 cites at
least one paper that uses the variable. These citations are not exhaustive. If we cite multiple papers, some of the papers may construct
the variable in a slightly different way. For a more complete list including the exact method of construction see our supplementary
appendix at https://sites.google.com/site/mockeefe/Data.
Variable Description Data sources Reference
Ln of rm Ln of annual rm sales (REVT) reported within one year prior Compustat Arugaslan et al. (2004)
sales to IPO issue date

Offer price 100 Offer Price Original Middle of Filing Price Range SDC Platinum New Issues Hanley (1993)
Original Middle Filing Price Range
revision Database
where Original Middle Filing Price Range
1
Original Low Filing Price Original High Filing Price
2
EBITDA to Earnings before Interest Taxes and DepreciationEBITDA
reported within Compustat Purnanandam and Swaminathan
Total AssetsAT
assets ratio (2004)
one year prior to the IPO issue date

Ln of Ln Original Middle of Filing Price Range
Shares Offered SDC Platinum New Issues Carter et al. (1998), R.K. Aggarwal
1;000;000
expected Database et al. (2002)
IPO
proceeds
Ln of IPO rm Ln(1 + Firm Age)where Firm Age = Year IPO Issued Jay Ritter Web Site, SDC Carter and Manaster (1990), Carter
age Year Firm Founded Platinum New Issues et al. (1998), Habib and Ljungqvist
Database (2001)
Ln of news Ln(1 + News Stories) where News Stories = Fulltext search LexisNexis US News and Cook et al. (2006)
stories hits of the IPO company name in the 6 months prior to the IPO Wire Database, SDC Plati-
issue date. We use the company name as noted in the prospectus, num New Issues Database
which is provided by SDC. We modify the company name search
string to account for variation in press reports. For example, Inc.
is replaced with Inc!. LexisNexis interprets Inc! as any word that
begins with Inc. so that Inc., Incorporated, and Inc. are all
(continued on next page)

Appendix A (continued)
successful matches. Other string changes included Corp to Corp!,

Labs to Lab!, and Tech to Tech!
Ln of number Ln(1 + Shares Offered sum of all mkts) SDC Platinum New Issues R. Aggarwal et al. (2002)
of IPO Database
shares
Long term The ratio of Long Term Debt (DLTT) to Total Assets (AT) reported Compustat Habib and Ljungqvist (2001)
debt to within one year prior to IPO issue date.
assets Ratio
Total The ratio of Total Liabilities (LT) to Total Assets (AT) reported Compustat
liabilities to within one year prior to the IPO issue date.
assets ratio
Ln of total Ln[Total Assets (AT)] Compustat Lowry and Schwert (2002),
assets Loughran and Ritter (2004), and
Lowry and Murphy (2007)

Investment IB Mkt Sharei;t 100
IB Proceedsi;t
for investment bank i and SDC Platinum New Issues Bradley and Jordan (2002), Carter
Total IPO Proceedst
bank Database et al. (1998), Ljungqvist and
year t. We obtain the lead investment bank for each IPO using
market Wilhelm (2002), Smart and Zutter
Bookrunner(s) Code and IPO proceeds from Proceeds Amt sum
share (2003), and Ellul and Pagano (2006)
of all mkts ($ mil).
Avg undprcg Average IPO rst trading day return in the 30 days prior to the IPO SDC Platinum New Issues Bradley and Jordan (2002), Edelen
in previous issue date. Database and Kadlec (2005)
30 days
Avg undprcg Average IPO rst trading day return in the month prior to the IPO Jay Ritter Web Site Cliff and Denis (2004)
in previous issue date.
month
Ln of number Ln of the number of IPOs in the 30 days prior to the IPO issue date. SDC Platinum New Issues Cliff and Denis (2004),
of IPOs in Database
prv 30 days
Avg prc rvs in Average Offer Price Revision of IPOs in 30 days prior to the IPO issue date. SDC Platinum New Issues Ljungqvist and Wilhelm (2002),
prv 30 days Database Edelen and Kadlec (2005)
Prior 30 day CRSP
^ t 30
1 t1
it31 CRSP Equal Weighted Index Returni where t is the CRSP Daily Ljungqvist and Wilhelm (2002);
CRSP EW IPO issue date Lowry and Schwert (2002)
index
Standard 2 12 CRSP Daily Ljungqvist and Wilhelm (2002); Cliff
t1
deviation ^ CRSP
t 29 it31
1
CRSP Equal Weighted Index Returni ^ t
CRSP
and Denis (2004)
of CRSP EW where t is the IPO issue date
index

Ln(1 + shrs Ln 1 Secondary Shares Retained
where Secondary Shares SDC Platinum New Issued Bradley and Jordan (2002), Loughran
Shares Offered
rtnd/shrs Database, CRSP Daily, Jay and Ritter (2004), Lowry and
Retained = Shares Outstanding Total Shares Sold (includes
ofrd) Ritter Web Site Murphy (2007)
overallotment shares). Shares Outstanding equals CRSP Shares
Outstanding except where the stock is multi-class. In this case, Shares
Outstanding equals the sum of the shares outstanding from all share
classes. Shares Offered equals Shares Offered sum of all markets.

Ln(1 + scd Ln 1 Secondary Shares Offered
where Secondary Shares Offered equals SDC Platinum New Issued R.K. Aggarwal et al. (2002)
Shares Offered
shrs Database
Secondary Shares Offered sum of all markets. Shares Offered equals
ofrd/shrs
Shares Offered sum of all markets.
ofrd)

Ln(1 + sch Ln 1 Secondary Shares Offered
where Secondary Shares Offered equals SDC Platinum New Issued Carter et al. (1998)
Shares Outstanding
shrs Database, CRSP Daily, Jay
Secondary Shares Offered sum of all markets. Shares Outstanding
ofrd/shrs Ritter Web Site
equals CRSP Shares Outstanding except where the stock is multi-class.
out)
In this case, Shares Outstanding equals the sum of the shares
outstanding from all share classes.
Investment Investment Bank reputation ranking. Matched lead bookbuilder SDC Platinum New Issued Carter and Manaster (1990),
bank using rst SDC Bookrunner(s) Code to modied CarterManaster Database, Gompers (1996), Carter et al. (1998),
reputation rankings on Jay Ritter website. Jay Ritter Web Site
Offer price Equals Offer Price Revision if Offer Price Revision b 0; otherwise SDC Platinum New Issued Lowry and Schwert (2002)
revision Offer Price Revision () = 0. Database
()

Interim offer Amended Middle of Filing Range Original Middle of Filing Range SDC Platinum New Issued Bradley and Jordan (2002)
Original Middle of Filing Range
revision Database

Offer revision Offer PriceAmended Middle of Filing Range SDC Platinum New Issued Bradley and Jordan (2002)
Amended Middle of Filing Range
from amnd Database
ng
Ln of days in Ln(Trade Date Launch Date) SDC Platinum New Issued R. Aggarwal et al. (2002)
regs Database

Undr fee as a 100 Total Underwriting Fee$
where SDC Platinum New Issued Chen and Ritter (2000), Cliff and
Proceeds
% of Database Denis (2004), Habib and Ljungqvist
Proceeds = (Offer Price) * (Shares Offeredsum of all Mkts)
proceeds (2001)
Appendix
Appendix A
A (continued)
(continued)

Selling fee as 100 Total Selling Concession$
where Proceeds = (Offer Price) * SDC Platinum New Issued Chen and Ritter (2000), Cliff and
Proceeds
a % of Database Denis (2004)
(Shares Offered sum of all mkts)
proceeds

Mngt fee as a 100 Total Management Fee $
where Proceeds = (Offer Price) * SDC Platinum New Issued Chen and Ritter (2000), Cliff and
Proceeds
% of Database Denis (2004)
(Shares Offeredsum of all mkts)
proceeds
Ln of Rolling 12 month average of the industry market value to EBITDA ratio Compustat Annual, Ken Purnanandam and Swaminathan
industry where market value = [(Price Close_Annual_Fiscal) (Common Shares French Web Site, (2004), Kim and Ritter (1999)
mkt value Outstanding)] and EBITDA is (Operating Income Before Depreciation) We
to EBITDA match each IPO by industry to the one month lagged ratio.
Industries are based on the Fama French 49 Industry Groups.
Ln of Standard deviation of the rolling 12 month average of the Compustat Annual, Ken Ritter (1984), Beatty and Ritter
industry SD industry market value to EBITDA ratio where market value = [(Price French Web Site (1986)
mkt to Close _ Annual _Fiscal) * (Common Shares Outstanding)] and EBITDA is
EBITDA (Operating Income Before Depreciation). We match each IPO by
industry to the one month lagged ratio. Industries are based on the
Fama French 49 Industry Groups.
Ln of Rolling 12 month average of the industry market value to sales ratio Compustat Annual, Ken Purnanandam and Swaminathan
industry where market value = [(Price Close_Annual_Fiscal) (Common French Web Site, (2004), Kim and Ritter (1999)
mkt value Shares Outstanding)]. We match each IPO by industry to the one month
to sales lagged ratio. Industries are based on the Fama French 49 Industry
Groups.
Ln of Standard deviation of the rolling 12 month average of the industry Compustat Annual, Ken Ritter (1984), Beatty and Ritter
industry SD market value to Sales ratio where market value = [(Price French Web Site (1986)
mkt to Close_Annual_Fiscal) (Common Shares Outstanding)]. We match
sales each IPO by industry to the one month lagged ratio. Industries are based
on the Fama French 49 Industry Groups.

Ln of price to Ln Offer Price Shares Outstanding where Annual Firm Sales (REVT) are SDC Platinum, Compustat Purnanandam and Swaminathan
Annual Firm Sales
sales ratio Annual (2004)
reported within one year prior to IPO issue date. Shares Outstanding
equals CRSP Shares Outstanding except where the stock is multi-class.
In this case, Shares Outstanding equals the sum of the shares
outstanding from all share classes.
Prior 30 day FFInd
^ j;t 30
1 t1
it31 Fama French Industry Returni; j where t is the IPO Ken FrenchWeb Site, CRSP Edelen and Kadlec (2005)
industry
issue date and j is one of 49 Industry Groups. We assign each IPO to one
rtrn
of the 49 Fama French Industry using the CRSP Standard Industrial
Classication Codes (siccd) and then match industry return using both
the issue date and industry.
Prior 30 day 12 Ken FrenchWeb Site, CRSP Ljungqvist and Wilhelm (2002),
t1 FFInd 2
sd of FFInd
j;t 291
it31 Fama French Industry Returni; j ^ j;t Ritter (1984), Beatty and Ritter
industry where t is the IPO issue date and j is one of 49 Industry Groups. We assign (1986)
rtrn each IPO to one of the 49 Fama French industry using the CRSP Standard
Industrial Classication Codes (siccd) and then match industry standard
deviation of return using both the issue date and industry.
Prior 30 day NASDAQ
^ t 30
1 t1
it31 NASDAQ composite returni where t is the IPO CRSP data item Return on Lowry and Murphy (2007)
NASDAQ issue date the NASDAQ Composite
rtrn Index
Prior 30 day 2 12 CRSP data item Return on Lowry et al. (2010a, 2010b),
t1
SD of ^ NASDAQ
t 29 it31
1
NASDAQ composite returni ^ t
NASDAQ
the NASDAQ Composite Ljungqvist and Wilhelm (2002),
NASDAQ where t is the IPO issue date Index Ritter (1984), Beatty and Ritter
rtrn (1986)
SD undprcg 12 SDC Platinum New Issues Ritter (1984), Beatty and Ritter
t1 Underpricing 2
in prv ^ Underpricing
t 29 it31
1
IPO average underpricingi ^ t Database (1986)
30 days where t is the IPO issue date
SD prc rev in 12 SDC Platinum New Issues Ritter (1984), Beatty and Ritter
t1 Pricerevision 2
prv ^ Pricerevision
t 29
1
it31 Average offer price revisioni ^ t Database (1986)
30 days where t is the IPO issue date
SDC high Dummy = 1 if SDC primary hi-tech industry code does not equal zero. SDC Platinum New Issues R.K. Aggarwal et al. (2002)
tech Database
dummy
Spin-off Dummy = 1 if SDC spin-off equals one. SDC Platinum New Issues Slovin et al. (1995)
dummy Database
Multi-class Dummy = 1 if rm issues multiple classes of equity Jay Ritter Web Site Bradley and Jordan (2002), Smart and
dummy Zutter (2003), Arugaslan et al.
(2004), Lowry and Murphy (2007)
VC backed Dummy = 1 if SDC venture backed is yes SDC Platinum New Issues R.K. Aggarwal et al. (2002), Bradley
dummy Database and Jordan (2002), Loughran and
Ritter (2004)
(continued on next page)

Appendix
Appendix A
A (continued)
(continued)
Pure primary Dummy = 1 if SDC (prim shs as % of shs ofrd sum of all mkts) = 100 SDC Platinum New Issues Loughran and Ritter (2004)
dummy Database
Multiple Dummy = 1 if SDC (number of bookrunners) N 1 SDC Platinum New Issues R.K. Aggarwal et al. (2002)
bookbuilder Database
dummy
NASDAQ Dummy = 1 if IPO listed on NASDAQ as dened by CRSP exchange code CRSP Bradley and Jordan (2002), Lowry
dummy (exchcd) equal to 3; zero otherwise and Schwert (2002), Smart and
Zutter (2008)
AMEX Dummy = 1 if IPO listed on AMEX as dened by CRSP exchange code CRSP Bradley and Jordan (2002), Lowry
dummy (exchcd) equal to 2; zero otherwise and Schwert (2002)
NYSE dummy Dummy = 1 if IPO listed on NYSE as dened by CRSP exchange code CRSP Bradley and Jordan (2002), Lowry
(exchcd) equal to 1; zero otherwise and Schwert (2002)
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Robust Determinants Ipo Underpricing and Their Implications For Ipo Research

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Journal of Corporate Finance 27 (2014) 367383

Contents lists available at ScienceDirect

Journal of Corporate Finance

Robust determinants of IPO underpricing and their implications

2. Variables and sample

2.1. Sample construction

2.2. Identication and construction of study variables

3. Analysis: what explanatory variables are robust?

3.1. Model averaging approaches

Variable Obs Mean SD 10th 50th 90th

First day return 5573 20.104 43.724 2.083 7.500 50.000

3.2. The extreme bounds approach

Initial Return j Aa; j Zz; j Xx; j for j 1 2M 3

EBA Best subset Lasso WALS BMA

3.3. The best-subset approach

3.4. The Lasso approach

3.5. Selection among variable selection methods

4. The implications of IPO regimes for our full sample evidence

4.1. Determination of IPO regimes

Statistically identied regimes Ritter identied regimes

19811998 19992001 20022007 19811989 19901998 19992000 20012007

4.2. Robust explanatory variables within regimes

(1) (2) (3) (4) (5) (6)

Ln of rm sales 0.181*** 0.181*** 0.181*** 0.181*** 0.181*** 0.181***

5. Statistical signicance and economic implications of our evidence

5.1. Statistical signicance

5.2. Economic magnitude of the selected variables

5.4. Examples of why a benchmark specication is important

(1) (2) (3) (4)

Censored Mixture of normals Linear

Explanatory variables Normal Component 1 Component 2 Regression

Multi-class dummy 0.156 0.010 0.085

Appendix A. Variable denitions

Variable Description Data sources Reference

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Variable Description Data sources Reference

successful matches. Other string changes included Corp to Corp!,

Variable Description Data sources Reference

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Variable Description Data sources Reference

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