A Study On The Relationship Between The Venture Capital And IPO Underpricing

The most interesting phenomenon associated with the process of initial public offerings of common stock is the frequent incidence of large initial returns, a phenomenon known as IPO underpricing. The underpricing phenomenon exists in every nation with a stock market and the incredibly high IPO underpricing in China is for "A" share IPOs. In recent years, with the development of venture capital in China, the researchers started to pay attention to the role of venture capital in the process of IPOs.The IPO market in China is different from the mature IPO market in western countries. Based on the institution of IPO in China, the paper analyzes the behavior of the parties involved in the process of IPOs to construct a visual framework. Then, based on "adverse selection", the paper analyzes the relationship between the venture capital and IPO underpricing. Finally, using a sample of IPOs in the small and medium-sized enterprise stock market from 2006 to 2009, we test the theoretical analysis.The empirical results show that VC-backed firms have significantly higher IPO underpricing. In the VC-backed issues, the firms with venture capital financing a year prior to their IPOs have significantly lower underpricing. There is a significant negative relationship between percentage of ownership owned by venture capitalists and IPO underpricing. The relationship between reputation of venture capitalists and IPO underprcing is negative, but not significant. These results are consistent with our theoretical prediction.