Lengthier prospectuses lead to higher offer price for fixed price IPOs, research finds

The writing of a prospectus is an integral part of the process of listing a company. The document itself represents one of the main sources of pre-IPO information and is scrutinised thoroughly by potential investors. For their short paper The Role of Admission Documents on the Pricing of UK Fixed Priced IPOs, the researchers investigated just what impact the length of a prospectus has.

Typically, there are two types of Initial Public Offering (IPO) – fixed price and book built.

In the fixed price scenario, the company going public determines a fixed price at which its shares will be offered to investors. The investors know the share price before the company goes public. To partake in this IPO, the investor must pay the full share price when making the application, and the demand from markets is only known once the issue has closed.

In the book building scenario, the company going public offers shares within a price range to investors. Investors then bid on the shares, specifying the number of shares they want to buy and how much they are willing to pay. There is no fixed price per share. Instead, the final share price is determined using investor bids.

Recent studies have examined the link between the pricing of book-built IPOs and the content and tone of IPO prospectuses. The empirical evidence suggests that prospectuses have a significant impact on under-pricing, pricing accuracy, and after-market return volatility for book-built IPOs.

For this study, the researchers investigated whether the length of IPO prospectuses also has an effect on fixed priced IPOs.

A text analysis was performed on a sample of UK IPOs from 2004 to 2012. Of the sample studied, 320 out of a total of 389 IPOs were fixed priced offerings. Fixed price offerings represent a substantial share of the total UK IPO market and are the most common issuing mechanism for small IPOS (those typically listed on the Alternative Investment Market (AIM)).

The study found that longer admission documents led to a higher offer price and smaller under-pricing for fixed priced IPOs. This suggests that the market values extensive information in the admission document, as it generally improves pricing accuracy.

The results also indicate that fixed price IPOs are likely to be characterised by a ‘pilot fishing’ stage. “Pilot fishing” is the process where, prior to setting the price or price range, the investment bank or adviser consults a small group of institutional investors to gauge sentiment about the likely valuation of the firm. This stage helps price discovery and provides a rationale for the role of the admission document

To the best of our knowledge this is the first paper to examine how the length of an IPO prospectus might affect pricing accuracy in UK fixed price IPOs.

The paper The Role of Admission Documents on the Pricing of UK Fixed Priced IPOs has been published in Economic Letters.