Bubna, Amit

Book building is the dominant offering mechanism for IPOs in the U.S. and other markets. It is controversial, in large part because it gives underwriters extensive power over IPO allocations. Critics argue that allocations could be abused to generate kickbacks for underwriters while proponents hold that allocation power could improve pre-market
price discovery. We examine the effect of varying underwriter power over IPO allocations in the Indian IPO market, exploiting natural variation induced by market regulations. When underwriters control allocations, book building is associated with lesser under-pricing, but this effect quickly dissipates when regulations withdraw allocation powers. Using proprietary data sets on IPO books, we examine how underwriters use allocation powers. We …find that allocation discrimination is pervasive, economically significant, and is used to differentiate between institutional bidders based on the size of the bid as well as non-bid information such as the type of the bidder and other soft information possessed by IPO managers. Our evidence supports book building theories in which giving underwriters allocation powers assists in pre-market price discovery.