Cornerstone Investor Allocation in Initial Public Offerings:Empirical Evidence from the Nordics

Abstract: The 2014-2016 Nordic hot issue IPO market raised a record SEK 156 billion. 37% of which were raised through the newly emerged mechanism of cornerstone investors, where large portions of new issues are allocated pre-IPO. We analyse the impact of the cornerstone mechanism on initial returns to investors using a new dataset of 121 Nordic IPOs of which 31 are cornerstone backed. First, cornerstone IPOs impose higher underpricing with up to 4.4% higher stock price appreciation 1 to 20 days' post IPO. Second, cornerstone investors receive larger allocations in heavily underpriced issues at the cost of non-cornerstone investors. Using an instrumental variable approach, we determine the causal effect of the presence of cornerstone investors on underpricing. We propose that the positive relationship between underpricing and IPO corner- stone investors is explained by bandwagon-, crowding-out effects and valuation discounts as compensation for cornerstone investor participation. Our findings are relevant for issuers, underwriters and investors as the short-term costs of cornerstone backing for issuers and profits for IPO investors are quantified.