ARE THERE INCENTIVES FOR QUALITY FINANCIAL REPORTING FOR FIRMS UNDERTAKING AN IPO? ACCOUNTING QUALITY AND IPO UNDERPRICING

Abstract

Firms undertaking an Initial Public Offering (IPO) on average, incur an indirect cost in the form of IPO underpricing. This study investigates whether the provision of higher quality financial reporting would be able to reduce underpricing within a single institutional framework – the Chinese IPO market. Using a form of iterative least square robust regression technique based on MM estimation (Yohai, 1987) on a sample size of 616 firms listing on the Chinese Stock Exchanges mainly from the period 2007-2011, yearly accruals are found to be negatively related to underpricing. Moreover, the study finds that accruals in the year prior are significantly greater than accruals two years prior. The greater accruals right before IPO may suggest some form of evidence that there is opportunistic reporting. Next, a separate sample of 140 firms listing on the Shanghai Stock Exchange is selected to study the effects of disclosure quality on underpricing. Due to the constraints of hand collection, sample size is restricted and as such, to ensure homogeneity in the small sample, the separate sample consists of only firms listing on the Shanghai Stock Exchange. Disclosures reduce the level of underpricing. On further subsamples based on size or age to proxy for the level of information asymmetry, the disclosure score for the high-information asymmetry subsample is significant and of a greater magnitude than the low-information asymmetry subsample. This suggests that disclosures are more important for firms with higher information asymmetry. Reconciling the findings, it seems that while reduction in underpricing may encourage greater disclosure, the very same incentive may incentivise firms to manipulate accruals to influence underpricing.