Firms underprice new issues of common stock for the following reason(s).
A) When the market is in equilibrium, additional demand for shares can be achieved only at a lower price.
B) When additional shares are issued, each share's percent of ownership in the firm is diluted, thereby justifying a lower share value.
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 listed contribute to the underpricing of new issues of common stock. The additional demand at a lower price is a basic principle of supply and demand, and dilution of ownership by additional shares justifies a lower share value. Additionally, issuing new shares can signal to investors that the firm believes its stock is overpriced and is using equity financing as a cheaper source of funding.

Firms Underprice New Issues of Common Stock for the Following