Direct Equity Financing: A Resolution of a Paradox

Abstract

When raising new equity capital managers have historically rejected the direct offer method favoring instead the seemingly more expensive underwritten public issue. This paper provides a resolution for this equity financing paradox by demonstrating empirically that firms which engage in direct offers enjoy a comparative cost advantage that is more than sufficient to account for the absolute reported cost differences between the two methods of equity financing.

The Structure of External Financing Costs and the Economies of Scale View: New Evidence from Seasoned Equity Offerings in Germany

“…3 Eckbo and Masulis (1992) also take a closer look at the structure of direct flotation costs. First, they show that direct flotation cost is an increasing function of the degree to which a firm is widely held, which is also evidenced by Hansen and Pinkerton (1982). Second, they reveal that direct flotation cost is also an increasing function of stock price volatility.…”

“…Cf. Smith (1977), p. 288 n. Note, however, that Hansen and Pinkerton (1982) presented some evidence against the equity financing paradox; for a critical discussion of that paper cf. Smith and Dhatt (1984).…”

“…2 Cf. for example Stoll (1976), Hansen and Pinkerton (1982), Bhagat and Frost (1986), Bae and Levy (1990), Eckbo and Masulis (1992), Ng and Smith (1996) or Lee et al (1996). For a synopsis of these results cf.…”

The direct costs of UK rights issues and open offers

“…The regression results are similar using the discount to the theoretical ex-rights price (source: Extel Financial), which averages 12.7% (median 12.3%) for all issues, 15.0% (14.3%) for rights issues and 8.4% (6.1%) for open offers. 9 Eckbo and Masulis (1992), Hansen and Pinkerton (1982) and Hansen and Torregrosa (1992) find a negative relationship between ownership concentration and issue costs. as these studies and estimate beta using daily data and the market model, specific risk by the standard error of the market model (std error), and total risk by the standard deviation of daily share returns (std dev).…”

Pension reform and capital market development in Central and Eastern European countries

“…Impavido and Musalem (2000) also state that pension funds increase financial innovation and foster the efficiency and competition on the domestic capital markets. Hansen and Torregrosa (1992) and Hansen and Pinkerton (1982) also mention the reduction of the trading and issuing costs on the markets which the pension funds activate. Some authors refer to the positive impact of the pension funds on the domestic capital markets, both for the economies with developed financial systems and for those that have less developed financial systems, the influence being somewhat diminished for the latter (Dayoub & Lasagabaster, 2008).…”