Why Do Investors React Negatively to Seasoned Equity Offerings?

Abstract

The average investor reaction is neutral to primary offerings by firms with managerial incentives closely tied to the shareholder value. Investors react negatively (1) when there are insufficient managerial ownership stakes to deter misuse of SEO proceeds and (2) when there are negative signals transmitted through secondary offerings by insiders and block-holders. Consistent with an agency-based explanation, firms engaging in value-destroying corporate acquisitions suffer large negative returns at the announcement of SEOs. Agency problems seem to be of less concern to investors, however, when firms are subject to intense monitoring by institutional investors and the market for corporate control. Overall, our findings demonstrate that controlling agency problems, an important facet of corporate governance, has a significant effect on firm valuation and the cost of external equity capital.