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IPOs versus Acquisitions and the Valuation Premium Puzzle: A Theory of Exit Choice by Entrepreneurs and Venture Capitalists

Published online by Cambridge University Press:  01 June 2011

Onur Bayar  and
Thomas J. Chemmanur
Onur Bayar
Affiliation:
College of Business, University of Texas at San Antonio, 1 UTSA Cir., San Antonio, TX 78249. [email protected]
Thomas J. Chemmanur
Affiliation:
Carroll School of Management, 140 Commonwealth Ave., Boston College, Chestnut Hill, MA 02467. [email protected]
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Abstract

We analyze a private firm’s choice of exit mechanism between initial public offerings (IPOs) and acquisitions, and we provide a resolution to the “IPO valuation premium puzzle.” The private firm is run by an entrepreneur and a venture capitalist (VC) (insiders) who desire to exit partially from the firm. A crucial factor driving their exit choice is competition in the product market: While a stand-alone firm has to fend for itself after going public, an acquirer is able to provide considerable support to the firm in product market competition. A second factor is the difference in information asymmetry characterizing the two exit mechanisms. Finally, the private benefits of control accruing to the entrepreneur post-exit and the bargaining power of outside investors versus firm insiders are also different across the two mechanisms. We analyze two situations: the first, where the entrepreneur can make the exit choice alone (independent of the VC), and the second, where the entrepreneur can make the exit choice only with the concurrence of the VC. We derive a number of testable implications regarding insiders’ exit choice between IPOs and acquisitions and about the IPO valuation premium puzzle.

Type
Research Articles
Information
Journal of Financial and Quantitative Analysis , Volume 46 , Issue 6 , December 2011 , pp. 1755 - 1793
Copyright
Copyright © Michael G. Foster School of Business, University of Washington 2011

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