Changes in systematic risk following global
equity issuance
Latha Ramchand
*, Pricha Sethapakdi
Department of Finance, College of Business Administration, University of Houston, Houston, TX 77204-6282, USA
Received 13 March 1999; accepted 16 July 1999
Abstract
This paper examines changes in systematic risk following global equity issues by US ®rms. Models of market segmentation show that if international capital markets are not fully integrated and demand curves for securities are downward sloping, ®rms issue equity at higher prices by issuing in multiple markets compared to issuance on a single domestic market. This would imply a reduction in the ®rmÕs cost of capital and an increase in ®rm value. Using a sample of global equity oers during 1986±1993, we ®nd that US ®rms that issue equity abroad experience a decline in systematic risk subsequent to issuance. After controlling for size, volume, and leverage eects, we ®nd that this decline in systematic risk is larger in magnitude for global compared to a control sample of domestic equity issues. The larger the proportion of the oer sold abroad and the larger the increase in trading volume, the bigger the decline in systematic risk. Using a two-factor global risk model we ®nd that while ®rms issuing equity abroad experience a decline in the domestic component of systematic risk, the foreign component increases. Overall, however, the net eect is a decline in the cost of capital. Ó 2000 Elsevier
Science B.V. All rights reserved.
JEL classi®cation:F30; G15
Keywords:Global; Equity; Systematic; Risk; Capital
www.elsevier.com/locate/econbase
*Corresponding author. Tel.: +1-713-743-4769; fax: +1-713-743-4789. E-mail address:ramchand@jetson.uh.edu (L. Ramchand).
0378-4266/00/$ - see front matter Ó 2000 Elsevier Science B.V. All rights reserved.
1. Introduction
The internationalization of security markets has enabled ®rms worldwide to seek and obtain alternative sources of capital. While US ®rms have been listing on foreign markets since the 1960s, a more recent phenomenon involves global equity oerings by US ®rms.1A global equity oer involves the simultaneous sale of equity by a US ®rm on the US and one or more foreign markets. The development of this market can be traced to the late 1980s. While there were a couple of global equity issues in 1983, the real origins of this market can be traced to 1985 when there were a total of 12 issues. The total amount of global equity raised was roughly $600 million. By 1993 both the total number of issues as well as the total volume of global equity issued by US ®rms had increased nearly sevenfold ± a total of 99 issues were made that raised close to $4 billion in equity. The proportion of the oer raised abroad is on average 21%. In-creasingly, larger equity issues are being oered for sale on multiple markets. As Chaplinsky and Ramchand (1998) document, while 60% of oers in excess of $100 million were oered in multiple markets in the period 1989±1991, this proportion had increased to 70% for 1992±1995. The trend seems to be for US ®rms desiring to issue large amounts of equity to raise capital on multiple markets.
The motivations to issue global equity are similar to those found in the literature on cross-border listings:2to enhance the liquidity of the ®rmÕs shares by increasing heterogeneity of the investor base and to reduce the ®rmÕs cost of capital. Such oers are believed to increase demand and hence share price and market value. With downward sloping demand curves for the ®rm's shares, global equity oers lead to a rightward shift of the demand curve. This reduces the price pressure eects when equity is raised leading to a higher share price and hence market value relative to oers that are sold exclusively on domestic markets. Chaplinsky and Ramchand (1998) document that the negative price reaction at announcement associated with equity oers is signi®cantly lower for global compared to domestic oers by 0.8%.
Global equity issuance can also be undertaken with the strategic objective of gaining a foothold in a foreign market so as to link the ®rmÕs product and capital markets. Investment bankers and ®rms also cite reduction in stock price volatility as another reason for doing a global as opposed to a domestic oer. Stock price volatility is driven by systematic as well as unsystematic risk. Placing shares in the hands of foreign investors, it is believed could make these securities less sensitive to domestic systematic risk. On the other hand, this could increase the ®rmÕs exposure to foreign market shocks including changes
1See Chaplinsky and Ramchand (1998).
in exchange rates and foreign interest rates. Changes in risk are important not merely for theoretical reasons but also since they aect the required rate of return on equity and hence the ®rm's cost of capital, which is of concern to managers.
This paper examines changes in systematic risk subsequent to the issue of equity by US ®rms in multiple markets (global oers). We examine a sample of global oers from 1986±1993 and document changes in stock price volatility and systematic risk after the issue. Based on changes in risk we then document the changes in cost of capital, if any, for ®rms that issue on foreign markets. Speci®cally we examine changes in stock price volatility and systematic (beta) risk with respect to the domestic (US) market for US ®rms that issue equity abroad. These changes are measured around a 250 day trading window both before and after the event as well as using a 48 month window before and after the event. We then compare these changes to changes in domestic beta risk for a control sample of ®rms issuing equity on domestic markets only. Following this, we examine if global equity issuance is also accompanied by changes in exposure to foreign market risk. Using the results on changes in systematic risk, both domestic and foreign, we examine changes in the cost of capital in the context of a two-factor model. Changes in risk ought to aect investorsÕ rates of return. Using methodology similar to that employed in Ritter (1991) and Foerster and Karolyi (1998a,b) we examine the pattern of abnormal re-turns of global issuers the year after the oer relative to rere-turns for ®rms that raise equity on domestic markets.
Our results indicate that beta estimates decline subsequent to equity issu-ance, consistent with the decline in ®nancial leverage.3We also ®nd that after controlling for changes in trading volume and issue characteristics, ®rms is-suing abroad experience a greater decline in beta compared to ®rms isis-suing equity on domestic markets only. We con®rm the robustness of our results using monthly returns as well as by using a pooled cross-section/time series regression. We also ®nd that the larger the proportion of the issue raised abroad, greater is the decline in systematic risk subsequent to the oer. Using a two-factor model with the domestic and a foreign index as the two factors, we ®nd that for global issues, while the domestic component of systematic risk (domestic beta) declines, the systematic risk with respect to the foreign market (foreign beta) increases, subsequent to the issue. The net eect is a decline in the
3
overall cost of capital although the decrease is not signi®cant. Finally there is some evidence to suggest that global issues experience a signi®cantly higher one-year return compared to domestic issues.
The remainder of this paper is organized as follows: Section 2 examines the theoretical motivations for global equity issuance and its impact on risk. Section 3 describes our data. Section 4 reports the empirical results on changes in stock price volatility and trading volume and systematic risk for global issues and compares them to a control sample of domestic issues. This section also examines the implications of changes in systematic risk on the cost of capital using a two-factor model as in Karolyi (1998). Section 5 gives our conclusions.
2. Global issuance and changes in risk
If international capital markets are not completely integrated and demand curves are downward sloping, a global equity issue can, by shifting the demand curve to the right, mitigate the downward price pressure on prices when new equity is issued. This would imply a higher price for the shares and hence a reduction in the cost of capital to the ®rm. Market segmentation could result from various factors ranging from legal investment barriers to taxes and transactions costs. Models of market segmentation suggest that any activity by the ®rm that lowers the cost of segmentation can enhance ®rm value.4 A global issue could also result in a lowering of the transactions and information costs associated with the purchase of these securities by foreign investors. Parsons and Raviv (1985) and Benveniste and Spindt (1989) point out that the marketing eorts accompanying a ®rm-commitment oer can potentially in-crease the oer price for an issue. While foreign investors can purchase these securities on a US exchange even in the absence of a global oer, the selling activities associated with a global oer can reduce the information costs faced by foreign investors. The introduction of a new market competing for order ¯ow could also reduce trading costs.5Finally, to the extent that global issues aord foreign investors tax bene®ts relative to purchases of securities directly on a US exchange, the return on these securities could be lower. All these factors imply that if capital markets are segmented, securities oered on global markets will command a higher price and hence lower the ®rm's cost of capital.
Segmentation of markets could also lead to changes in systematic risk when ®rms access foreign capital markets. Previous studies on the eect of
cross-4See Black (1974), Stapelton and Subramanyam (1977), Stulz (1981), Errunza and Losq (1985), Alexander et al. (1987, 1988) and Stulz and Wasserfallen (1995) for models of market segmentation.
border listings ®nd that subsequent to the listing, ®rms experience changes in the domestic market beta.6These studies also ®nd that such listings lead to changes in systematic risk while keeping overall variances unchanged.7 For cross-listed stocks, changes in systematic risk result from changes in exposure to both the domestic as well as the foreign market. To the extent that the domestic and foreign markets are not completely integrated, foreign listings increase the exposure of the ®rmÕs returns to foreign market ¯uctuations as well as changes in exchange rates. For instance, Howe and Madura (1990) ®nd that for US ®rms listing in Europe or Japan, domestic betas measured with respect to the S&P 500 index drops while the beta with respect to the foreign market increases.8Further, Varela and Lee (1993) ®nd that US ®rms listing in London experience a decline in the cost of capital to the tune of 240 basis points sub-sequent to listing. As a complement to this literature, Foerster and Karolyi (1999) ®nd that foreign ®rms listing in the US experience a decline in their local market betas while global market risk is unchanged.9Jayaraman et al. (1993) report that the listing of American Depositary Receipts results in a permanent increase in risk and return of the underlying securities (see also Miller, 1999). Generalizing these ®ndings on cross-listings to equity issues would suggest that equity issues by US ®rms on a foreign market could also result in changes in systematic risk.
It should be noted, however, that equity issuance on a foreign market does not automatically imply that the shares are listed on the foreign market. In fact only a small proportion of the ®rms in our sample (22%) also list their shares abroad. At the same time ®rms need not always issue equity on markets where they are also listed. Listing could have a dierent impact on trading volume and trading patterns when compared to issuance. For instance, ®rms that issue equity but do not have a foreign listing could experience a decline in trading volume if foreign investors do not trade as frequently, either because their objectives are dierent or because they face signi®cant transactions costs. Foerster and Karolyi (1998a) ®nd that post-issue abnormal returns of foreign ®rms issuing equity in the US are positively related to the magnitude of trading volume shifted to the US market. For US ®rms issuing abroad, the same need not be true to the extent that the proportion of trading volume shifted abroad may not be as high as that of foreign ®rms issuing in the US. This would imply a smaller increase in the systematic risk with respect to the foreign index.
6
See Karolyi (1998) and Stulz (1998) for an exhaustive review of this literature. 7
See Howe and Kelm (1987), Lee (1991), Torabzadeh et al. (1992), Damodaran et al. (1993), Varela and Lee (1993), Lau et al. (1994), Rothman (1995), Foerster and Karolyi (1998a,b).
8
Also see Torabzadeh et al. (1992), and Damodaran et al. (1993).
To the extent that the foreign tranche of the equity oer subsequently results in a ``¯ow-back'' to the domestic market, these eects will be reduced resulting in risk and return remaining unchanged. The change in systematic risk is im-portant since it impacts on the required rate of return and hence the ®rm's cost of capital. Whether or not systematic risk and hence the required rate of return declines, is an empirical issue that we examine below.
3. Data
Our sample consists of global equity oers made by US ®rms during 1986± 1993.10By global oer we refer to the simultaneous sale of equity by a US ®rm on the US and one or more foreign markets. This de®nition is largely an ar-tifact of the data we use in which all issues involve a foreign as well as a do-mestic tranche. The dodo-mestic tranche varies anywhere from 11% to 50% with an average of 21%. While the prospectuses state the amount of the oer to be sold in the foreign tranche, there is almost always no mention of the exact foreign market where the issue will be sold. The prospectuses merely state that a certain percentage of the issue will be sold outside the US. All oers in this sample are seasoned equity oers (SEOs).
Since all the issues in this sample involve simultaneous issues in the domestic as well as one more foreign markets, these oers do have to meet SEC re-quirements and have to be oered for sale at the same price on all markets. The tax implications on these securities are no dierent from those relevant for US holdings by foreign investors in general and are detailed in the prospectus. Furthermore, the institutional details of the marketing process are similar to those of a domestic oer except for the fact that the underwriting syndicate comprises international underwriters who, in general, are the international aliates of the domestic book manager. Also, as explained in Chaplinsky and Ramchand (1998), these oers are almost always marketed at least initially to foreign institutional investors.
We restrict our attention to ®rm commitment oers made by industrial ®rms, all of which involve the sale of primary shares.11By primary we refer to new shares as opposed to the sale of existing shares. We also eliminate from our sample equity oerings connected with closed-end investment funds. Our sample includes 309 issues by 262 ®rms of which there are 190 NYSE/AMEX
10
This sample is a subset of the global equity issues used in Chaplinsky and Ramchand (1998) obtained from theNew Issues Databaseof the Securities Data Company (SDC).
and 72 NASDAQ ®rms.12 For all of our oers we require stock return data from the Center for Research in Security Prices (CRSP) as well as company speci®c information from the COMPUSTAT tapes. Since we examine changes in systematic risk using daily returns as well as monthly returns we require data on daily returns around a 250 day window both before and after the event as well as monthly returns around a 48 month window before and after the event. As a result of this our ®nal sample reduces to 147 issues of which 122 are NYSE/AMEX ®rms and 25 are NASDAQ.13
Our control sample of domestic equity issues is obtained from the Disclo-sure 33 CD database. The control sample is limited to primary equity issues that are sold in the US market only. To ensure proper control we also eliminate from this group closed-end investment funds and OTC ®rms. The control sample is constructed in the following manner:
Step 1: For every global issue, we choose a domestic issue that is closest in ®rm size to the global issue. This is done using the ®rmÕs market value of equity (MVEQ) prior to the issue.
Step 2: We then choose from among the subset of the domestic issues that are ®rm size matched, that issue which is closest in terms of the issue date to the global issue.14
Since trading volume changes induced by equity issuance could be dierent across NYSE/AMEX versus NASDAQ ®rms, throughout the paper we sepa-rate the two groups.15Table 1 reports issue characteristics of NYSE/AMEX and NASDAQ ®rms separately. From Panel A, the average size of global
12There are 4 OTC ®rms that are eliminated from this sample.
13Our analysis of systematic (beta) risk is based on daily returns over a 250 day period both prior to and after the event. In addition, we estimate monthly betas using a 48 month horizon prior to and after the event. If the ®rm does not have at least 50 observations of daily returns both prior to and after the event or if it does not have at least 30 months of data prior to and after the event, it is eliminated from the sample. The binding constraint is the requirement of 30 monthly returns before and after the event, which eliminates ®rms that made initial public oerings within a 2 yr period prior to our oer date (the median time between IPO and the seasoned oer for ®rms in our sample is 29 months). This reduces the sample size to 174 issues. The remaining loss is due to lack of ®nancial data on COMPUSTAT. All results on global issues in Tables 1±5 are based on this ®nal sample of 147 ®rms.
14
We did analyze the results using two other ways : One, matching by asset size prior to the issue and then by issue date and two, by matching using book-to-market ratios prior to the oer and then by the issue date. The results using these methods are qualitatively identical to those reported in the paper.
15
equity oers by NYSE/AMEX ®rms is $250 million, of which, $53 million or roughly 21% is raised abroad. While the number of global issues has been increasing over time (Panel B), the average proportion of the foreign equity tranche (Panel A) has remained more or less constant at 20%. On average global issues result in an increase in the number of shares by about 8 million for NYSE/AMEX and 3 million for NASDAQ ®rms (Panel A). The number of shares sold abroad is roughly 20% of the total number of shares issued and ranges from about 1.53 million for NYSE/AMEX ®rms to about 0.6 million for NASDAQ ®rms (Panel A). Both in terms of the average size and the Table 1
Variable NYSE/AMEX NASDAQ
Panel A:±Issuer characteristics of global issues± 1986±1993a
Issue size ($ millions) $250 $67
# Shares issued (millions) 7.67 2.78
% Issued abroad 21% 22%
# Shares issued abroad (millions) 1.53 0.59
Size/MVEQ 0.19 0.35
MVEQ ($ millions) $1823 $322
CAR 1;1 ÿ0.023 ÿ0.026
Change inD/E ÿ0.29 ÿ0.03
N 122 25
Panel B±Number of issues by year of issue
Year NYSE/AMEX NASDAQ Totalb
1986 6 0 6
1987 8 2 10
1988 7 0 7
1989 1 2 3
1990 9 4 13
1991 29 7 36
1992 27 4 31
1993 35 6 41
147
aSize is the issue size in millions of dollars. # Shares Issued is the number of shares oered for sale in millions. % Issued Abroad is the proportion of the issue sold abroad. # Shares Issued Abroad is the number of shares in millions oered for sale in the foreign markets. Size/MVEQ is the size of the issue relative to the market value of the issue at the time of the oer. MVEQ is the market value of the ®rm's equity at the time of the oer in millions of dollars. CAR (ÿ1,+1) is the cumulative abnormal return calculated around a 3 day window relative to the announcement date of the oer using market adjusted returns and change inD/Eis the change in the debt to equity ratio after the issuance of equity.Ndenotes the number of observations in each group.
b
Total denotes the total number of issues for a given year for the 147 global issues in our ®nal sample.
*
number of shares issued, global issues are much larger than domestic issues.16 On average, global issue sizes are about 19% of the existing market value of the ®rm for NYSE/AMEX ®rms and about 35% for NASDAQ ®rms. The average global issuer is also typically a large ®rm as evidenced by the MVEQ in Panel A of Table 1. The mean market capitalization of the global issuer in the NYSE/ AMEX group is almost $2 billion.17 Panel A of Table 1 also reports the av-erage cumulative abnormal return CAR ÿ1;1 calculated using a 3 day window relative to the announcement date for global issues. The mean CAR ÿ1;1is ÿ2.3% for NYSE/AMEX and ÿ2.6% for NASDAQ issuers both of which are signi®cant at 1%. Chaplinsky and Ramchand (1998) report that after controlling for ®rm size and risk, the CAR ÿ1;1is less adverse by 0.8% for global issues compared to domestic issues sold exclusively on the domestic market. The last row of Panel A is the change in the debt to equity ratio after the issuance of equity. With the issue of new equity, the debt to equity ratio declines by 0.29 for NYSE/AMEX ®rms and declines by 0.03 for NASDAQ ®rms.
4. Empirical results
4.1. Changes in stock price volatility and trading volume
We document the changes in volatility accompanying global issuance by comparing pre and post issue stock price volatility. The market microstructure literature relates changes in stock price variance to changes in volume and trading activity.18Hence we do the same comparison for trading volume. 19 We also compare these changes to the control sample of domestic issues matched by market value and date of the oer. These results are reported in Table 2. Panel A of Table 2 reports the pre and post oer standard deviation of the stock price for NYSE/AMEX ®rms. This is calculated around a 250-day window relative to the listing and oer dates. More precisely the pre-oer standard deviation is the standard deviation of the ®rmÕs stock price measured over 250 days starting 300 days before the announcement date and ending 50
16
The average size of a comparable NYSE/AMEX domestic issue is$117 million and the MVEQ is$1.6 billion. For NASDAQ issues the issue and ®rm size of a domestic issue are$44 and$320 million, respectively.
17
Some of the more well-known ®rms in this group are Time Warner, Occidental Petroleum, Westinghouse Electric, Union Carbide, Union Texas Petroleum, Sears Roebuck, Motorola and Inland Steel to name a few.
18See Forster and Viswanathan (1993).
days prior to the announcement date. Similarly the post oer period starts 50 days after the oer date and ends 300 days after the oer date. Trading volume is measured as the number of shares traded daily as a proportion of the total number of shares outstanding as of that day. The results in Panel A suggest that NYSE/AMEX ®rms making a global oer experience a decline in stock price volatility of 8.7% ((0:021ÿ0:023)/0.023) subsequent to the issue. This contrasts with an increase in volatility of 4% for ®rms issuing equity on do-mestic markets only. Furthermore, the dierence across the two groups is signi®cant at the 1% level. Trading volume increases for both groups although the increase is signi®cantly larger for global issues compared to domestic is-sues.20 In the case of NASDAQ ®rms reported in Panel B, global as well as domestic issues result in a decline in stock price volatility and increase in trading volume of similar magnitudes. In other words, NASDAQ ®rms which Table 2
Changes in stock price volatility and trading volume: Comparison between global and domestic oers ± 1986±1993a
Variable Global oers Domestic oers Dierence
between
0.023 0.021 1.095 0.023 0.022 1.045 (0.01)
0.014 0.015 (0.31) 0.017 0.018 (0.40) Trading
volume
0.346 0.415 20% 0.352 0.382 9% (<0.01)
0.391 0.374 (<0.01) 0.265 0.250 (<0.01)
Panel B ± NASDAQ ®rms Standard
deviation
0.033 0.032 1.031 0.034 0.031 1.096 (0.31)
0.082 0.049 (0.46) 0.045 0.035 (0.41) Trading
volume
0.804 1.041 29% 0.618 0.825 33% (0.83)
0.489 0.518 (<0.01) 0.570 1.024 (<0.01)
aThe Pre-oer period is a 250-day window that starts 300 days before the announcement and ends 50 days before the announcement. The post-oer period is a 250-day window starting 50 days after the oer date and ending 300 days after the oer date. The ®rst row in columns 2, 3, 5 and 6 are means and the second row reports medians. The column labelledÔRatio/Dierence (p-value)Õ re-ports the ratio of pre to post-oer standard deviations and thep-value for a dierence in standard deviations using anF-test. For trading volume, the value in this column is the dierence between the pre and the post oer period and thep-value (in parantheses) of a dierence of meanst-test between the pre and post oer values. The last column titledÔDierence between the groupsÕis the p-value associated with a dierence of meanst-test across the two groups viz. Global and domestic oers.
are on average smaller in size, experience similar changes in liquidity that arise from a larger equity base, no matter where they issue.
4.2. Changes in systematic risk
Next we estimate changes in systematic (beta) risk using the same 250 day window before the announcement date and after the oer date. We calculate beta by regressing daily stock returns on the CRSP equal-weighted index. To account for estimation biases resulting from frictions in the trading process, we follow Denis and Kadlec (1994) and estimate betas using a symmetric lead/lag of 1, 2, 5, 10 and 15 days but only report results using OLS betas and betas using a lead/lag of 2 and 10 days.21This is done using the Scholes±Williams (1977) method regressing returns on leading, contemporaneous and lagged market returns (see also Fowler and Rorke, 1983). The results for the global as well as the control sample of domestic equity issues are reported in Table 3.
Consistent with Denis and Kadlec (1994), as the number of leads and lags is increased, estimates of systematic risk decline for both domestic and global oers. Using a symmetric 2-day lead/lag structure, the mean beta for NYSE/ AMEX ®rms declines from 1.28 in the pre-oer period to 1.23 post-oer (medians decline from 0.81 to 0.76) while average betas using a 10 day lead/lag structure change from 0.96 to 0.77, a decline of 0.19 that is signi®cant at the 10% level.22 The longer lead/lag structure is meant to reduce the problems associated with infrequent trading that could characterize OLS betas. As a further check, the last row has betas estimated using monthly returns for a 48-month window starting one 48-month before and ending 48 48-months before the announcement month. The post-oer betas using monthly returns are similarly calculated using monthly returns starting one month after and ending 48 months after the oer month. Similar to the 10-day lead/lag betas, the monthly betas for global issues decline from 0.95 to 0.82, a decline that is signi®cant at the 10% level. Monthly betas for domestic issues also decline although the decline is not signi®cant. Furthermore, the p-values for the Wilcoxon signed rank test imply that the decline in betas is signi®cantly lower for the global compared to the domestic issues at the 5% level. For NASDAQ ®rms in Panel B of Table 3, beta estimates increase for global oers and decline for domestic oers.23 In general, the changes are not signi®cant. In addition, the p values for a dierence of means t test across the two groups and for a Wilcoxon
21
The results using betas computed with 1, 5 and 15 day lead/lags are qualitatively identical. 22
p-Values reported are associated with a dierence of meanst-test and a non-parameteric Wilcoxon signed rank test.
signed rank test suggest that the dierences across the two groups is not signi®cant.24
Our results suggest that in most cases, when estimation biases caused by trading frequencies are corrected for, equity issuances by NYSE/AMEX ®rms Table 3
Changes in systematic risk for domestic and global equity oerings ± 1986±1993a
Beta Global oers Domestic oers Dierence
Pre-oer Post-oer Change Pre-oer Post-oer Change p-value
Panel A ± NYSE and AMEX ®rms
OLS 1.36 1.33 ÿ0.03 1.40 1.40 0.00 0.62
1.35 1.11 ÿ0.24 1.19 0.70 ÿ0.49 0.22
L2 1.28 1.23 ÿ0.05 1.13 1.28 0.15 0.02
0.81 0.76 ÿ0.05 0.89 0.58 0.31 0.02
L10 0.96 0.77 ÿ0.19 0.96 0.97 0.01 0.14
0.31 0.13 ÿ0.52 1.08 0.57 ÿ0.51 0.29
Monthly 0.95 0.82 ÿ0.13 1.00 0.97 ÿ0.03 0.21
0.81 0.51 ÿ0.31 0.74 0.61 ÿ0.13 0.03
Panel B ± NASDAQ ®rms
OLS 1.75 1.98 0.23 1.95 1.84 ÿ0.11 0.16
2.25 2.11 0.14 1.85 1.92 0.07 0.10
L2 1.66 1.92 0.26 1.84 1.51 ÿ0.33 0.02
2.07 1.60 0.47 1.80 1.58 ÿ0.22 <0.01
L10 1.35 1.44 0.09 1.36 1.37 0.01 0.82
2.35 0.81 ÿ1.54 1.93 1.22 ÿ0.71 0.22
Monthly 1.30 1.14 0.14 1.33 1.39 0.06 0.23
1.58 1.11 ÿ0.47 1.45 1.81 0.36 0.20
aBeta is calculated by regressing the daily stock return on the CRSP equal weighted index return for a 250 day window. Pre-oer betas are calculated using the 250 window starting 50 days before and ending 300 days before the announcement day. Post-oer betas are calculated using the 250 day window starting 50 days after and ending 300 days after the oer day. OLS is the ordinary least squares regression and LN is the beta calculated using the Scholes and Williams (1977) correction usingNsymmetric leads and lags for the market index. Monthly refers to betas calculated using monthly returns over a 48 month interval. Pre-oer monthly betas are calculated starting one month prior to the announcement month and ending 48 months prior to the announcement month. Post-oer monthly betas are calculated starting one month after and ending 48 months after the oer month. The ®rst value in each cell is the mean for that variable while the second is the median. Change is the dierence between pre and post-oer betas (means and medians). The last column titled ``Dierencep-value'' contains thepvalue for dierence of meansttest across the domestic and global sub-groups (®rst row) and for theZstatistic associated with a Wilcoxon signed rank test (second row). *Signi®cance level 5%.
**Signi®cance level 10%.
24
are followed by a decline in a ®rmÕs equity beta. This is consistent with a le-verage eect. From Hamada (1972):
beba baÿbd D=E; 1
) Dbeba D D=E; 2
wherebe, ba, andbd represent the systematic risk of the ®rmÕs equity, assets,
and debt, respectively. D represents change and D/E is the ®rmÕs debt to equity ratio. The issuance of new equity by reducing (D/E) results in a lower beta. To the extent that global issues result in a bigger decline in the debt to equity ratio, the decline in systematic risk can be attributed to a leverage eect. From Table 1, the decline in the debt to equity ratio is 0.29 for NYSE/ AMEX ®rms making global equity oers. On the other hand, the debt to equity ratio declines by 0.12 for our control sample of domestic issues. This dierence is signi®cant at the 5% level. The implication of Eq. (2) is that the decline in beta should be greater for global issues. In fact, using Eq. (2) above, for NYSE/AMEX ®rms, the predicted change in beta (PCB), is on average,ÿ0.12 for global issues andÿ0.06 for the domestic control sample. For NASDAQ ®rms, the PCB is ÿ0.07 for global and ÿ0.03 for domestic issuers.
These univariate comparisons between global and domestic issues, how-ever, do not control for dierences in issue size, both absolute and relative, changes in volume and other characteristics across the two groups. Hence we regress the actual change in beta on the predicted change as well as on variables intended to control for size, leverage eects and volume. We ®rst analyze these eects for global and domestic issues separately. The coecient of the PCB is used to determine if the actual change in beta is larger or smaller than the predicted change. Furthermore the dierence in magnitude of the coecient across the two groups indicates the relative dierences between the two groups.
Table 4 reports these regressions separately for the NYSE/AMEX and NASDAQ ®rms, respectively. The dependent variable in speci®cations (1) and (2) is the change in beta estimates using a 10 day lead and lag structure.25The independent variables used are SIZE, which is the issue size in millions of dollars, S/M which is the issue size relative to MVEQ at the time of issuance, BTM which is the book to market ratio used in various studies of returns (see Fama and French, 1995), PCB, the PCB using Eq. (2) above and VC which measures the percentage change in volume subsequent to issuance. The PCB is
Table 4
Cross-sectional regressions of changes in beta following equity issuance 1986±1993a
Independent
(0.15) (0.24) (0.11) (0.07) (0.01) (0.01)
PCB 1.349 0.787 1.196 0.743 0.700 0.704
(<0.01) (0.09) (0.01) (0.01) (<0.01) (<0.01)
PCB´GD 0.437
S/M 1.182 0.938 0.686 0.068 0.470 0.426
(0.07) (0.29) (0.05) (0.46) (0.11) (0.14)
BTM ÿ0.237 ÿ0.113 ÿ0.070 0.542 0.185 0.182
(0.10) (0.37) (0.28) (<0.01) (0.04) (0.04)
VC 0.043 ÿ0.224 0.021 ÿ0.046 0.049 0.092
(0.15) (0.26) (0.25) (0.39) (0.37) (0.19)
VC´GD ÿ0.032
(0.41)
VC´%IA ÿ0.239
(0.20)
R2 0.096 0.005 0.119 0.092 0.081 0.085
N 122 122 122 122 244 244
Panel B ± NASDAQ ®rms
Constant 0.138 0.425 ÿ0.153 0.248 0.136 0.125
(0.40) (0.31) (0.30) (0.24) (0.27) (0.28)
ÿ ÿ ÿ ÿ
(0.26) (0.11) (0.38) (0.26) (0.03) (0.02)
PCB´GD 0.647
(0.07)
PCB´%IA 3.811
(0.04)
SIZE ÿ8.33Eÿ10 ÿ1.38Eÿ8 1.07Eÿ11 ÿ2.1Eÿ9 ÿ2.3Eÿ9 ÿ2.28Eÿ9
(0.44) (0.04) (0.49) (0.25) (0.10) (0.10)
S/M 0.416 ÿ1.826 ÿ0.373 0.581 ÿ0.230 ÿ0.211
(0.25) (0.07) (<0.01) (0.09) (0.13) (0.14)
BTM ÿ0.411 1.684 0.029 ÿ0.570 ÿ0.116 ÿ0.093
(0.30) (0.24) (0.44) (0.28) (0.31) (0.33)
VC 0.149 0.111 0.177 0.095 0.010 0.005
(0.30) (0.28) (0.03) (0.21) (0.47) (0.48)
VC´GD 0.103
(0.25)
VC´%IA 0.392
(0.22)
R2 ÿ0.090 ÿ0.104 ÿ0.061 ÿ0.127 ÿ0.065 ÿ0.061
N 25 25 25 25 50 50
aPCB is the predicted change in beta from Hamada (1972). PCB
GD is an interactive variable equal to GD times PCB where GD is a dummy
variable1 for a global issue and 0 otherwise. PCB´%IA is an interactive variable equal to PCB times the proportion of the oer issued abroad %IA.
SIZE is the issue size in millions of dollars. S/M is the ratio of issue size to market value of equity one year prior to the oer. BTM is the book value to market value of equity calculated one year prior to the oer. VC is the change in trading volume calculated using a 250 day window before the an-nouncement date and after the oer date where volume is measured as the number of shares traded daily as a proportion of the total number of shares
outstanding on that day. VC´GD is an interactive variables equal to GD times VC. VC´%IA is an interactive variable equal to VC times the
proportion of the oer issued abroad %IA;R2is the adjustedRsquared of the regression andNdenotes the number of observations in each
speci-®cation. Heteroscedasticity consistentp-values are in parantheses.
L.
Ramchand,
P.
Sethapakdi
/
Journal
of
Banking
&
Finance
24
(2000)
1491±1513
meant to control for leverage eects as explained above. We also check the robustness of these results using monthly beta changes as the dependent variable in speci®cations (3) and (4).
From Panel A for NYSE/AMEX ®rms making a global issue, relative issue size is positively while book to market is negatively related to the change in beta. The coecient of the change in volume is not signi®cant although the positive sign indicates that ®rms experiencing a larger increase in volume ex-perience an increase (smaller decline) in beta. The coecient of the PCB, PCB is signi®cant and greater than one in magnitude for global issues suggesting that the actual change in beta is larger than the predicted change for global issues. For instance the magnitude of the coecient of PCB suggests that for global issues, the change in beta should beÿ0:161:349 ÿ0:12. This con-trasts with the ®ndings for the domestic issues in (2) where the coecient of PCB is less than one in magnitude implying that the change in beta is lower than the predicted change. Using the coecients again, the change in beta for domestic issues is (using the regression coecients) ÿ0:050:787 ÿ0:060. The same pattern is observed when changes in monthly betas are used to es-timate changes in systematic risk and used as the dependent variable in the regression (speci®cations (3) and (4)). The coecient of PCB for the global issues1:196 compared to 0.743 for domestic issues.
oer.26Since both VC and %IA are positive, this implies that the greater the proportion of the issue sold abroad, the larger is the decline in beta.27
Panel B replicates these results for NASDAQ ®rms. The coecients of PCB in speci®cations (1)±(4) are not signi®cant for the global as well as the domestic issues taken separately. One reason for this could be the smaller sample size. The pooled regressions, however, recon®rm the ®ndings for the NYSE ®rms that global issues experience a larger decline in beta compared to their domestic counterparts. The coecient of PCB is however negative and signi®cant while that of the interactive term PCBGD is positive and signi®cant. This suggests that the change in beta for domestic issuers is positive while that for global issuers is negative and the dierence is signi®cant.28
Taken together these ®ndings suggest that global issues are associated with bigger declines (or smaller increases) in systematic risk after equity is issued, ceteris paribus. Also, the decline is greater even after controlling for leverage (Hamada, 1972), volume, size and time eects. In addition, the larger the foreign tranche of the oer, the greater is the decline in systematic risk com-pared to the predicted decline and greater is the shift in trading volume to a foreign market, the greater is the reduction in domestic systematic risk.29
26
We recognize that in the absence of a knowledge of the foreign market and the actual volume in that market, this measure is a crude proxy for the change in volume driven by the foreign sale of equity. As mentioned above, the actual market of issuance for these issues is not known (we looked through several prospectuses) and in the absence of this information, this is the best proxy we have. We tried other measures such as the raw turnover after the issue times %IA but the variable is not signi®cant. Besides, to the extent that only a small proportion of the ®rms in our sample that issue equity abroad also list their shares abroad, this variable may not represent actual foreign trading volume.
27While not reported here, qualitatively identical results obtain if our control sample is constructed by ®rst matching by date of the oer and then by either MVEQ or by book to MVEQ ratios.
28Similar conclusions obtain when alternative speci®cations using other variables such as the actual volume prior to the oer are used in place of the volume change. The coecient of the interactive term is always positive and signi®cant for both the NYSE/AMEX and NASDAQ ®rms. 29We also examined (not reported) changes in beta in a more dynamic context where the betas are calculated using a pooled cross-section/time series regression of monthly returns. To do this we stack for each ®rm, the ®rm as well as the market return for the entire period under analysis i.e.for each ®rm we stack the 96 month returns (48 months before and 48 months after the event). The data for all ®rms in each group (NYSE/AMEX and NASDAQ) is then pooled and we run the following market model regression: RabRmC TRm et;R R1;R2;R3;. . .;RN)
whereRN is a column vector that includes 96 monthly returns for each ®rm. SimilarlyRm is
4.3. Changes in the cost of capital
The evidence presented above suggests that ®rms choosing to raise equity capital in multiple markets experience a decline in systematic risk with respect to the domestic component. Even if systematic risk with respect to the do-mestic (US) market declines, for global issues, systematic risk with respect to a foreign index could change post issuance. We investigate such changes using a two-factor model with the domestic (US) and a foreign index as the two factors. Ideally the two factors ought to be the US index and the index of the country in which these shares are issued. To our knowledge, the exact market of issuance of these securities is not publicly available.30 Hence, we use a broad based foreign index, the Europe, Asia and Far East (EAFE) index that represents most of the major equity markets except the US market. In order to avoid problems related to non-synchronous trading, we use monthly data and the following two-factor model to estimate the two com-ponents of systematic risk:
E Ri Rfbi;USE RUS ÿRf bi;EAFEE REAFE ÿRf; 3
whereRiis the return on stocki,Rf is the risk free rate (30 day UST-Bill rate),
RUSandREAFEare the returns on the US market index (CRSP equal-weighted)
and the EAFE index, respectively.E denotes the expectation operator. The results of this estimation for global issues are presented in Table 5 for NYSE/ AMEX and NASDAQ ®rms. For NYSE/AMEX ®rms, the average beta with respect to the US index declines from 0.94 before the oer to 0.75 after the oer and the decline is signi®cant at the 5% level. The median beta declines from 0.66 to 0.53.31On the other hand, the beta estimates with respect to the foreign index, the EAFE index, increase from 0.05 to 0.24 on average for NYSE/ AMEX ®rms an increase of 0.19 which is also signi®cant at the 1% level. For NASDAQ ®rms, systematic risk with respect to the US index declines from 1.29 to 1.12 and that with respect to the EAFE increases from 0.04 to 0.15. Neither of these changes is however, statistically signi®cant.
Using the pre and post-event estimates of systematic risk we next compute for each ®rm, the cost of capital before and after the issue using (3) above.32
30
We examined various sources including the prospectuses of these issues. While the prospectus states the proportion of the oer (the number of shares) that is to be issued outside the US, no mention is made of the foreign market.
31
Although these betas are estimated using monthly returns as in Table 3, the estimates dier from those in Table 3. The dierence arises because the estimation in Table 3 uses a one-factor whereas in Table 5 uses a two-factor model.
The risk free rateRf is the 30-day US. Treasury bill rate for the period 1970± 1996 which is 6.74% annualized. The returns on the US and the EAFE index used in (3) are geometric average rates for the period 1970±1996. The average monthly rate of return for the CRSP equal-weighted index is 1.2133% and that for the EAFE (monthly) index is 1.1342%. The average monthly cost of capital for NYSE/AMEX ®rms in the pre-event period is 1.20% while that in the post event period is 1.18%, a decline (of 27 basis points when annualized), which is not, however, signi®cant. The median cost of capital changes from 1.17% to 0.87%. For NASDAQ ®rms the cost of capital declines from 1.43% to 1.38% and the median cost of capital from 1.67% to 1.31%.33
Overall these results suggest that global equity issues by US ®rms are ac-companied by a decline in stock price volatility and systematic risk with respect to the domestic (US) index. The decline in systematic risk is greater for global compared to domestic issues. Furthermore, while systematic risk declines rises with respect to the domestic index, that with respect to a foreign index Table 5
Changes in systematic risk and cost of capital using a two-factor model for global issues ± 1986± 1993a
NYSE/AMEX Change NASDAQ Change
Pre-oer Post-oer Pre-oer Post-oer
bUS 0.94 0.75 ÿ0.19 1.29 1.12 ÿ0.17
0.66 0.53 ÿ0.13 1.48 1.10 ÿ0.38
bEAFE 0.05 0.24 0.19 0.04 0.15 0.11
0.31 ÿ0.05 ÿ0.36 0.23 0.03 ÿ0.20
Cost of capital 1.20 1.18 ÿ0.02 1.43 1.38 ÿ0.05
(% monthly) 1.17 0.87 ÿ0.30 1.67 1.31 ÿ0.36
N 122 122 122 25 25 25
a
The model used here to compute the cost of capital is:
E Ri Rfbi;USE RUS ÿRf bi;EAFEE REAFE ÿRf Eq: 3in text
whereE(Ri) is the cost of capital of theith ®rm,E(RUS) is the average return on the CRSP equal weighted index for the time period 1970±1996 andE(REAFE) is the average return on the Europe, Asia and Far East (EAFE) index for the time period 1970±1996 andRfis the average rate on the 3 month Treasury bill for the period 1970±1996.bi;USandbi;EAFEare the estimates of systematic risk with respect to the US and the EAFE monthly indices. The numbers in the ®rst row of each cell are means and the second row is the median. Change is the dierence between the pre and the post-oer period values of the variable.indicates signi®cance at the 5% level andindicates signi®cance at the 10% level. These are calculated using at-test for dierence of means (®rst row of the cell) and a Wilcoxon signed rank test (second row of the cell).Ndenotes the number of observations used to calculate the cost of capital in each group.
increases. The cost of capital on average declines although the decline is not signi®cant.
From an investorÕs perspective what matters is actual returns. We also ex-amine the actual abnormal rates of return during the same post-event interval of 250 days after the oer. To do this, we compute holding period returns as in Ritter (1991) and Foerster and Karolyi (1998a,b).34We use a 21 trading day month to measure abnormal returns and correspondingly, we use a 12-month period to measure returns for the post event 250 day interval.35 Hence, for each global issue we calculate abnormal and cumulative abnormal returns for 1, 6 and 12 months after the oer using the CRSP value weighted index as the benchmark. The average 1, 6 and 12 month cumulative abnormal returns for NYSE/AMEX ®rms are 3.25%, 3.85% and 5.20%, respectively, none of which is signi®cant. For NASDAQ ®rms the cumulative abnormal returns are
ÿ0.86%, 3.86% and 3.67% none of which is again signi®cant. Recent work shows that the method used to calculate abnormal returns as well as the benchmark used are important in ensuring well speci®ed tests (See Barber and Lyon, 1997; Barber et al., 1999). Hence we also examine cumulative abnormal returns using holding period returns upto 1, 6 and 12 months. In doing this we use the comparable domestic ®rm matched in size and time as the benchmark in place of the CRSP value weighted index.36The abnormal returns using this method and using a skewness adjusted t statistic suggested in Barber et al. (1999) are positive and signi®cant (6 and 12 month returns) at 1% for both NYSE/AMEX and NASDAQ ®rms. This suggests that the signi®cantly better price performance of global issues at announcement documented in Chaplin-sky and Ramchand (1998) as well as the lower systematic risk documented above are accompanied by higher actual returns when compared to a control sample of domestic issues.
34
Loughran and Ritter (1996) report a CAR ofÿ10.23% for the ®rst year after an IPO oer and Speiss and Aeck-Graves (1995) report a CAR ofÿ5% for seasoned equity oerings using a size matched ®rm as the benchmark.
35
The use of a 21 trading day month implies 242 trading days in a year and is closest to the 250 day time period used to calculate post event betas.
36
5. Conclusion
This paper examines the changes in systematic risk and its implications for cost of capital for US ®rms that issue equity on foreign markets (global equity). Using a sample of 147 issues between 1986 and 1993, we ®nd that US ®rms issuing global equity experience a decline in stock price volatility and sys-tematic risk (with respect to the US market index). We compare these changes to a control sample of US ®rms issuing equity on the domestic market and ®nd that there are signi®cant dierences in systematic risk changes between the two groups. After controlling for volume, leverage and issue characteristics, we ®nd that ®rms issuing on multiple markets experience a signi®cantly larger decline in systematic risk with respect to the US market. Our results are qualitatively unchanged for NYSE/AMEX as well as NASDAQ ®rms, for daily as well as monthly returns. Using a two-factor global risk model with the US and a foreign market indexes as the factor proxies, we ®nd that ®rms issuing equity abroad experience a decline in the domestic beta, but the systematic component of risk with respect to a foreign index increases after the oer. The net eect, however, is a decline in the cost of capital.
Our ®ndings suggest that ®rms raising capital on foreign markets could experience a change in their cost of capital and hence a change in ®rm value. Raising capital on multiple markets could add enhance ®rm value by lowering the cost of capital. Similarly changes in the pattern of actual returns are im-portant to investors. Our ®ndings suggest that abnormal returns in the year after the oer are higher for ®rms raising capital on multiple markets compared to ®rms that raise capital on domestic markets only. This could have impli-cations for long-run returns. Similar to the ®ndings in Foerster and Karolyi (1998b) one might expect the pattern of 3 or 5 year returns to be dierent for ®rms raising equity on foreign markets. An interesting question in this context is posed by Stulz (1998). Stulz (1998) asks why the 100±150 basis point decline in the cost of capital does not translate into larger valuation increases. He suggests that these ®rms are undergoing a serious change in governance with a new global ownership that induces incremental agency and asymmetric infor-mation costs. These and other related questions we leave for future research.
Acknowledgements
We would like to thank Susan Chaplinsky, Rich Pettit, Dave Blackwell and two anonymous referees for comments and suggestions.
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