Firms underprice new issues of common stock for the following reason(s):
A) when additional shares are issued, each share's percent of ownership in the firm is diluted, thereby justifying a lower share value.
B) when the market is in equilibrium, additional demand for shares can be achieved only at a lower price.
C) many investors view the issuance of additional shares as a signal that management is using common stock equity financing because it believes that the shares are currently overpriced.
D) all of the above.

Question

Quizplus · Accepted Answer

All of the reasons given contribute to why firms underprice new issues of common stock. Dilution of ownership and the need to entice additional demand for shares are economic factors that support underpricing. Additionally, the perception that management may be signaling overpriced shares could be a strategic reason why a firm would underprice its shares.

Firms Underprice New Issues of Common Stock for the Following