The Market for Firms: Market Signaling and Overpricing

Jerome Davis, Hans Keiding

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DOI: 10.4236/ti.2010.13024                

Abstract

In this paper, the pricing and sale of firms is approached from the owners’ point of view. It is shown that there are very strong ex ante owner incentives to set prices of firm products or services below their short- term profit maximizing levels, since low prices signal low costs and as a consequence a higher sales value of the firm. Buyers take this signaling into consideration, but irrespective of their countermoves, the equilib- rium result may be a lowering of ex ante product prices, and an ex post market overvaluation of the firm. This model is utilized to suggest possible explanations to one of the more puzzling initial public offer (IPO) phenomena: the long run underperformance of IPO equities.

Keywords

Signaling, IPO Overpricing

Conflicts of Interest

The authors declare no conflicts of interest.

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