The role of mandatory lockup ratios in initial public offerings

Abstract

This paper examines the potential explanations for Initial Public Offering (IPO) lockup provisions. This study uses cross‐sectional regression, robust least squares, and quantile regression on data for the period from 2000 to 2014. We explore the explanation of lockup as (i) a signal of firms' commitment to alleviate the moral hazard problem, or (ii) a signal of firms' qualities. The results document that firms retain higher proportions of their shares as a signal of commitment rather than quality. Besides that, firms with higher lockup ratios are more likely to engage high‐quality underwriters for their listing exercise. The findings suggest that although the regulation requires major shareholders to lockup their entire shareholdings until 6 months after the IPO listing, they tend to keep higher proportions than the minimum requirement of 45% of the enlarged issued and paid up capital as a signal of commitment towards reducing the moral hazard problem. Thus, investors should recognise the signalling role of the lockup provision when they make investment decisions. Policymakers need to pay attention to the formulation of lockup provisions. While lockup is mandatory, the different percentages of shares locked up are of interest to this study. Further, the findings highlight the importance of lockup provisions in boosting the confidence of investors to participate in IPOs. This study provides new empirical evidence regarding the role of the lockup provision.