Litigation Risk and IPO Underpricing : Evidence from Federal Judge Ideology

Using federal judge ideology as an exogenous measure of firms’ ex ante litigation risk, we document that the initial public offerings (IPOs) of the firms headquartered in more liberal circuits are more underpriced. The effect is mitigated when plaintiffs’ pleading standards are more stringent and amplified when the judges have more discretion in their decisions. The effect is also amplified among “deep pocket” firms, firms in litigious industries, and firms with greater agency problems, while it is mitigated among firms hiring reputable intermediaries in the IPO process. Collectively, our findings underscore the salience of litigation risk in driving IPO underpricing