Stock Market Liquidity and the Cost of Issuing Equity

Abstract

We show that stock market liquidity is an important determinant of the cost of raising external capital. Using a large sample of seasoned equity offerings, we find that, ceteris paribus, investment banks' fees are significantly lower for firms with more liquid stock. We estimate that the difference in the investment banking fee for firms in the most liquid vs. the least liquid quintile is about 101 basis points or 21% of the average investment banking fee in our sample. Our findings suggest that firms can reduce the cost of raising capital by improving the market liquidity of their stock.

Stock Market Liquidity: Financially Constrained Firms and Share Repurchase

“…the more liquidity improves, the more likely a firm is to issue equity. This is in support of Butler et al (2005), since the cost of raising equity when liquidity improves is lower. Firms also are more likely to issue equity when they have less cash flow, more cash, and pay fewer dividends.…”

“…Butler et al (2005) find that stock liquidity is an important determinant of the cost of raising external capital because both flotation costs and investment banking fees are lower when stock liquidity improves. I examine the effect of improved liquidity on a firm's equity and debt issuances in the period from 1992 to 2006 using Heckman's (1979) two-stage regression to control for selection bias.…”

“…My paper builds on literature linking stock liquidity and external financing (Lipson & Mortal, 2009;Butler, Grullon & Weston., 2005), stock liquidity and investment (Becker-Blease & Paul, 2006;Vo, 2013), stock liquidity and price efficiency (Chordia, Roll & Subrahmanyam, 2005;Chordia, Roll & Subrahmanyam, 2008), and stock liquidity and firm risk (Pastor & Stambaugh, 2003;Acharya & Pedersen, 2005;Chan, Hameed & Kang, 2013) by showing that these benefits are especially valuable to financially constrained firms.…”

Strategic Disclosure, Analyst Behavior and Equity Flotation Costs

“…Previous studies (Altinkilic and Hansen, 2000, Eckbo and Masulis, 1992, Butler, Grullon and Weston, 2005and Lee and Masulis, 2009) find flotation costs increase with the issuer's risk. We measure security risk by stock price daily standard deviation and firm market capitalization.…”

Sharpening the Arithmetic of Active Management

“…As a result, a company's cost of issuing new securities is lower when secondary markets are more liquid (Butler, Grullon, and Weston 2005;Ellul and Pagano 2006).…”