Institutional Trading, Information Production, and the SEO Discount: A Model of Seasoned Equity Offerings

Abstract

We develop a model of the seasoned equity offering (SEO) process, starting from the SEO announcement, through pre-offer trading, and ending in the offering itself. We use our model to advance a new rationale for the existence of the SEO discount and SEO underpricing, and to analyze the role of institutional investors in SEOs. We show that the SEO discount is positively related to the extent of information asymmetry a firm faces, and SEOs with greater pre-offer net buying by institutional investors have higher institutional allocations, greater oversubscription, and lower SEO discounts. Furthermore, our model predicts a positive link between the pre-offer net buying by institutional investors and the magnitude of SEO underpricing and the long-run post-SEO operating performance.