||A relevant factor in determining the quality of an initial public offering (IPO) mechanism
is the level and variability of underpricing that occurs. The percentage difference
between the IPO price and the closing price after one day of trading is a common way
to define the “underpricing” of the stock. Although companies may value a small amount
of positive underpricing, they certainly want this to be controlled. Both extreme
positive and extreme negative underpricing are undesirable for a company. Building
off of a paper that found a lower mean and variability of underpricing for firms that
use the auction IPO mechanism as opposed to the book building IPO mechanism, this
paper argues that auctions are not disadvantaged when only large firms are considered.
Although this paper finds that the book building mechanism controls underpricing better
than the auction mechanism, the advantage disappears when considering only large firms.
This analysis is relevant because, aside from two companies, only small companies
have used the auction IPO mechanism in the United States. Due to the lack of auction
IPOs in the United States, this paper uses French data in its analysis. By showing
that large firms using the auction mechanism are not disadvantaged when compared to
large firms using the book building mechanism, this paper attempts to encourage large
firms in the United States to consider using the auction method for their IPOs.