The oversight role of regulators: evidence from SEC comment letters in the IPO process

  • Bing Li and Zhenbin Liu
  • Review of Accounting Studies
  • A version of this paper can be found here
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What are the research questions?

This study uses the SDC US New Issues database to identify 659 IPOs to determine whether and how Comment Letters (CLs) issued by the SEC affect the pricing decision of the IPO firms.  The sample included 473 IPOs that received letters, with an average of 7 letters each, while 186 received no letter at all.
  1. Do firms engaged in the IPO process, that also receive CLs (vs. IPOs that do not receive CLs), revise their final offering prices one way or the other during the waiting period?
  2. Does the receipt of SEC CLs increase the likelihood that the firm will reduce it’s offer price?
  3. Is there a relationship between the number of CLs issued and the frequency of changes in the IPO disclosures, during the waiting period? 

What are the Academic Insights?

  1. YES.   IPOs (S-1 and SB-2 filings) with available price data between May 2005 and December 2011 are more likely to make revisions in prices if they have received comment letters. We know from practical experience and from previously published research that IPOs tend to provide imprecise disclosures in order to keep proprietary information from competitors and reduce other agency costs. Combined with that research, the results presented here are consistent with the idea that SEC Comment Letters have an impact on the information asymmetry associated with initial offerings, thereby lessening corporate “hyping” that may occur during the IPO waiting period.
  2. YES.  There is a negative and significant relationship between the sign of the price change and the receipt of Comment Letters. This result is consistent with the idea that new issuers have strong economic incentives to overestimate the selling price in the offer. The registration statement provides an opportunity for issuers to “manipulate” the information found in the filings. The SEC CLs in turn, provide a mitigating influence on the disclosures in the filing with an eye towards suppressing the incentive to hype the offering. The authors propose that the CLs in effect, lead to downward pressure on investor demand for the offering which in turn, leads the issuer to reduce the offer price.
  3. YES.  Using a definition of “hyping” published previously, the authors equate the number of changes in disclosures to incentives to hype the offering price and calculate that value within a six month period around the offering. It appears that there is a more pronounced impact in decreasing the offer price with greater incentives to hype (i.e. more frequent changes in disclosures).

Why does it matter?

The authors conclude that the SEC’s role in oversight of the IPO process is an effective mechanism that reduces the over-hyping of the offering price set by issuers. If CLs are the mechanism, then mispricing at the final offer by issuers with more CLs should be no more or less than those with fewer CLs. However, the authors report that issuers with more CLs actually outperform those with fewer, over the long term. ONE CAVEAT: Perhaps that outperformance is more a result of an inordinate amount of negativity in the disclosures required by the CLs.

The most important chart from the paper

The results are hypothetical results and are NOT an indicator of future results and do NOT represent returns that any investor actually attained. Indexes are unmanaged, do not reflect management or trading fees, and one cannot invest directly in an index. 


This study investigates how regulatory oversight affects the price formation of initial public offerings (IPOs). We provide evidence on the oversight role of the US Securities and Exchange Commission (SEC) by examining the effects of comment letters issued by the SEC in the process through which companies are initially listed. We find that IPO issuers reduce their offer price if they receive comment letters. The reduction in price from the IPO filing date to the final issue date is greater when the IPO firm has more correspondence with the SEC. The pricing impact of SEC comment letters is more pronounced for IPO issuers with greater hyping incentives. Moreover, we find that IPO firms that receive more comment letters have similar levels of underpricing and outperform over the long run after the issue date, compared with IPOs with fewer comment letters.

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About the Author: Tommi Johnsen, PhD

Tommi Johnsen, PhD
Tommi Johnsen is the former Director of the Reiman School of Finance and an Emeritus Professor at the Daniels College of Business at the University of Denver. She has worked extensively as a research consultant and investment advisor for institutional investors and wealth managers in quantitative methods and portfolio construction. She taught at the graduate and undergraduate levels and published research in several areas including: capital markets, portfolio management and performance analysis, financial applications of econometrics and the analysis of equity securities. In 2019, Dr. Johnsen published “Smarter Investing” with Palgrave/Macmillan, a top 10 in business book sales for the publisher.  She received her Ph.D. from the University of Colorado at Boulder, with a major field of study in Investments and a minor in Econometrics.  Currently, Dr. Johnsen is a consultant to wealthy families/individuals, asset managers, and wealth managers.

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