Working Paper: NBER ID: w6847
Authors: Randall S. Kroszner; Raghuram G. Rajan
Abstract: In this paper we investigate potential conflicts of interest in the issuance of public securities in a setting analogous to a universal bank, i.e., the underwriting of initial public offerings by investment banks that hold equity in a firm through a venture capital subsidiary. We contrast two hypotheses. Under anticipate the conflict. The suggests that investment banks are able to utilize superior information when they underwrite securities. The evidence supports the rational discounting hypothesis. Initial public offerings that are underwritten by affiliated investment banks perform as well or better than issues of firms in which none of the investment banks held a prior equity position. Investors do, however, require a greater discount at the offering to compensate for potential adverse selection. We also provide evidence that investment bank-affiliated venture firms address the potential conflict by investing in and subsequently underwriting less information-sensitive issues. Our evidence provides no support for the prohibitions on universal banking instituted by the Glass-Steagall Act of 1933.
Keywords: Universal Banking; Conflicts of Interest; Venture Capital; Underwriting; Initial Public Offerings
JEL Codes: G21; G24
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Underwriter equity stakes (G32) | IPO performance (G24) |
| Market perception of conflicts (D74) | IPO pricing (G24) |
| Underwriter reputation (G24) | Investor trust (G24) |
| Underwriter reputation (G24) | IPO performance (G24) |