Abstract
We investigate how governance affects investor confidence in seasoned equity offerings (SEOs) and the cost of raising external equity. Using a differences-in-differences approach with business combination statutes as an external shock, we find investors become worried about non-productive use of SEO proceeds when the law change weakens external pressure for good governance. We buttress this finding by identifying a channel through which governance causes heterogeneous investor reaction to SEO announcements--increases in capital expenditures following SEOs. Also consistent with the governance based explanation, market reaction is more negative when issuers have prior records of value-reducing acquisitions and weaker alignment of managerial incentives to shareholder value. The magnitudes of these impacts are surprisingly large, explaining most of negative market reactions to primary offerings. Secondary offerings are met with strong negative reactions due to signaling effects; however, our data show no evidence in support of the adverse selection hypothesis.
Published Version
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