Capital-structure changes around IPOs

Evan Dudley

Warrington College of Business University of Florida

Gainesville, FL 32611-7168 evan.dudley@warrington.ufl.edu

(352) 392-9985

and

Christopher James*

Warrington College of Business University of Florida

Gainesville, FL 32611-7168

christopher.james@warrington.ufl.edu (352) 392-3486

First draft: June 2013

This draft: November 2013

JEL Classification: G32

Keywords: Capital structure, preferred shares, market timing, staged finance, initial public offerings

*: Corresponding author. We thank Jay Ritter for graciously sharing his IPO database with us and his thoughtful

comments on an earlier draft. We also thank seminar participants at HEC Montréal, the University of Florida and at

Queen’s University for helpful comments.

1

Capital-structure changes around IPOs

Abstract

This paper examines capital-structure changes around IPOs. We find that the magnitude of leverage changes as well as market timing in hot-issue markets are sensitive to sample selection and whether preferred shares are treated as debt when computing pre-IPO leverage. Consistent with investor concern with overinvestment, firms that rely on preferred stock prior to their IPO are more likely to engage in staged equity financing after they go public. Overall, using a broader sample of IPO firms, we find little evidence of transitory declines in leverage during hot-issue markets.

2

Introduction

A number of recent empirical studies focus on leverage changes around initial public

offerings (IPOs) in order to draw inferences about managers’ valuation of the firm at the time of

the IPO (Alti, 2006) and the nature and persistence of target leverage ratios (Lemmon et al., 2008

and Baker and Wurgler, 2002). A common assumption in these studies is that leverage changes

are largely the result of managerial discretion at the time of the IPO and thus provide insights

into the determinants of capital structure. In this paper we argue that for some firms, the

magnitude of IPO-year changes in leverage and the determinants of IPO related changes in

leverage are quite sensitive to how leverage is defined and the selection criteria used to form the

sample.

We start by documenting that a substantial percentage of private firms rely heavily on

preferred stock financing before they go public. For example, in our sample of IPOs, 45 percent

of the firms had preferred stock outstanding in the year before they went public, and, for those

firms, the book value of preferred stock averaged about 75% of the book value of assets. We find

that IPO firms with preferred shares outstanding are typically financed by active investors; either

VC or private equity firms. Moreover, we find that the use of preferred stock by IPO firms has

increased over time with the growth of active-investor financing of start-ups. Firms with

preferred stock outstanding also typically have a history of losses prior to going public and as a

result have negative book equity at the time they go public. More importantly, over 90 percent of

firms in our sample with preferred stock convert all of their preferred stock into common shares

when they go public. This occurs because most convertible preferred shares require mandatory

conversion when the firm goes public.

The widespread use of preferred stock and the conversion of most preferred when firms

go public makes the magnitude of leverage at the time of an IPO quite sensitive to how leverage

is defined and to the types of firms included in the sample of IPOs. For example, most empirical

studies of leverage changes around IPOs treat preferred stock as debt when computing leverage.

The rationale for this treatment is that for publicly traded companies, preferred stock is typically

3

thought of as a fixed claim resembling debt rather than equity.1 However, treating preferred as

debt when examining capital structure changes around IPOs raises several concerns. First,

mandatory conversion of preferred shares leads to a large mechanical change in leverage at the

time of the IPO. Second, the reasons for preferred financing and thus the firm characteristics

associated with preferred are very different for private than publicly traded firms. Finally, and

perhaps most important, prior empirical studies typically restrict pre-IPO leverage to be within

the unit interval. When preferred is treated as debt, this restriction leads to a sample of IPO firms

that is skewed toward older and more profitable firms that are more likely to employ debt

financing after they go public.

To illustrate these concerns, consider the case of NetFlix’s IPO in May of 20022. At the

end of December 2001, Netflix had $30 million in total liabilities, $102 million in convertible

preferred stock outstanding and $42 million in assets. Owing to a history of losses, Netflix had a

stockholder’s deficit of about $90 million. As part of its IPO, Netflix raised $75 million in new

funding, paid off $3 million in debt and, because of the mandatory conversion requirement,

converted all of its preferred stock into common stock. If, as is typically done, preferred stock is

treated as debt, Netflix pre-IPO leverage would be 314% ((30+102)/42), which drops to 32%

after the IPO (owing largely to the conversion of preferred).3 Since the pre-IPO leverage exceeds

100%, Netflix would be excluded from the IPO firms using the sample selection criteria

employed by Alti (2006) and Baker and Wurgler (2002).

NetFlix is not an outlier. Using a sample of firms that conducted IPOs between 1975 and

2009 we show that the magnitude of leverage changes differs significantly depending on how

leverage is defined and the sample selection criteria employed. We measure book leverage in

three ways. The first measure is similar to the one used by Alti (2006), Baker and Wurgler

(2002) and Kayhan and Titman (2007) which defines debt as total liabilities plus preferred shares

1 See for example, Kayhan and Titman (2007). Ross, Westerfield and Jaffe (2010), in their corporate finance text, argue that “preferred stock is probably more similar to debt than to common stock” due to the constant dividend rate associated with preferred stock of public companies. 2 The change in capitalization as reported in NetFlix’s offering prospectus is provided in appendix A2. Information on total liabilities and total assets is on page F-3 of the offering prospectus. 3 Book leverage from the pro-forma balance sheet that takes into account the conversion of preferred shares equals 74%. Book leverage taking into account the conversion of the preferred shares and the proceeds raised from the IPO is 32%, based on the firm’s balance sheet at the end of December 2002.

4

less deferred taxes and convertible debt.4 We refer to this leverage measure as LEVPF. The

second measure (LEV) is the same as LEVPF but treats preferred as equity rather than debt. Our

final measure of leverage is the ratio of short-term plus long-term debt to total assets. This is the

measure used by Lemmon et. al. (2008). We refer to this measure as LEVSL.

As shown in Figure 1, the change in leverage is orders of magnitude larger for LEVPF

relative to LEV. Using information gathered from the offering prospectuses, we confirm that the

difference is due to the conversion of preferred shares as part of the IPO. More importantly,

including preferred as debt obscures capital structure persistence. For example, firms with pre-

IPO preferred shares have characteristics such as high market-to-book ratios, high levels of R&D

expenditures and relatively low operating cash flows that are typically associated with low

leverage. Yet despite these characteristics, based on LEVPF, these firms have higher than

average leverage before going public and lower than average leverage after going public

We also investigate whether treating preferred as debt and excluding firms with LEVPF

outside the unit interval affects the importance of market timing as a determinant of leverage

changes for IPO firms. This analysis is motived the results of a recent study by Alti (2006) who

finds large but transitory changes in leverage (defined by LEVPF) following IPOs in so called

hot-issue markets. Alti interprets these findings as evidence of market timing by issuing firms in

hot IPO markets. Alti’s sample excludes firms with LEVPF greater that 100% and thus excludes

many younger, R&D intensive IPO firms that rely heavily on preferred stock financing prior to

going public.

As discussed in detail later in the paper, we expect that firms with preferred outstanding

are less likely to engage market timing in hot-issue markets than other IPO firms. This

expectation is based on the observation that the use of convertible preferred by firms before they

go public is part of a staged financing process. Staging by start-up firms is thought to play a role

in mitigating potential overinvestment problems between the entrepreneur and outside investors

(see for example Gompers (1995), Sahlman (1990), and Hellman (2006) for a discussion of the

reasons for the use of preferred stock by start-up firms). Staged equity financing is particularly

important role for firms that invest primarily in specialized intangible assets such as R&D (which

4 Compustat does not distinguish between convertible preferred and straight preferred stock.

5

has a greater discretionary component) and where significant private benefits may accrue to the

entrepreneur or management. We hypothesize that the same agency concerns arising from

potential overinvestment that motivates the use of preferred stock prior to going public and may

also temper investors’ enthusiasm for the shares in hot IPO markets. If so, and assuming pre-IPO

usage of preferred is a proxy for agency concerns with overinvestment problems, we would

expect lower supply elasticities in hot markets for firms with preferred stock. We refer to this as

the agency-cost hypothesis.

We show that firms with preferred stock outstanding prior to the IPO have financial

characteristics typically associated with staged equity financing (e.g. they have high levels of

R&D, little debt financing and high market-to-book ratios). Interestingly we find that the

characteristics associated with the use of preferred stock financing among IPO firms are

negatively related to the use of preferred stock among publicly traded firms, suggesting that the

reasons for issuing preferred stock are very different for start-ups than for established publicly

traded firms.

Following recent work by Hertzel, Hudson and Parrino (2012) we use the IPO firm’s

cash burn rate and the frequency of follow-on offerings to measure public-market staged

financing following the IPO. Consistent with the continued use of staged financing, we find that

cash burn rates (the ratio of the difference between investment spending and operating earnings

to IPO proceeds) are positive and significantly related to the firm’s pre-IPO reliance on preferred

shares. More importantly, we find that firms with preferred in their pre-IPO capital structure rely

more heavily on equity staging (particularly private equity offerings) and much less on debt

financing than other IPO firms after they go public.

We also document that the use of preferred stock before going public is associated with

the involvement of an active investor, though not exclusively VC investors (62% of firms with

pre-IPO preferred are VC backed). To investigate whether active investor involvement and

staged financing are related to the propensity to engage in hot-issue market timing, we divide our

sample of IPO firms into two groups based on whether or not the firm has preferred stock

outstanding at the time of the IPO. Overall we find significantly lower supply elasticities for

firms that rely on preferred shares before going public. We interpret this as evidence consistent

with the agency-cost hypothesis. More importantly, after removing the restriction that LEVPF is

6

within the unit interval, (which increases the sample of IPO firms by over 40% by including

many firms like NetFlix), we find little evidence of transitory declines in leverage in hot issue

markets.

Overall we find that the financial choices of firms made prior to going public are

significantly related to their post-IPO financing decisions. This finding is consistent with the

results of Lemmon et. al. (2008), who find a surprising degree of persistence in leverage dating

back before the firm goes public. While going public is an important life-cycle event, our results

suggest that agency problems associated with overinvestment by private firms persist after the

firm goes public despite significant changes in the information and control environment the firm

operates in. We contribute to the capital-structure literature by showing that, for a significant

fraction of firms that go public, the previously documented decline in leverage at the time of the

IPO is largely mechanical—resulting from the mandatory conversion of preferred. We also find

that the sensitivity of firms to hot-issue markets and market timing opportunities is significantly

related to the severity of agency problems arising from the potential for overinvestment. Our

findings suggest that financially constrained firms for whom external financing is rationed or

doled out sequentially are less likely to engage in market timing. These results are consistent

with Korajczyk and Levy (2003), who show that constrained firms are unable to time their issue

choice with periods of favorable macroeconomic conditions.

The remainder of the paper is organized as follows. The next section provides

background on the use of preferred stock by start-up companies. This background serves to

motivate our analysis of persistence in financing choice. In section 2 we describe our sample and

define the variables we use in our empirical analysis. In section 3 we present our empirical

results concerning leverage changes around the IPO and whether the use of preferred stock is

related to staged-equity financing after the IPO. In section 4 we examine the post IPO evolution

of leverage and the relationship between preferred financing and the sensitivity of leverage to

commonly used proxies for market timing. Section 5 concludes.

1. Background: Staging and the Use of Convertible Preferred by Start-up Companies

7

As Sahlman (1988, 1990) and Gompers (1995) point out, staged financing is a prominent

feature of start-up financing. Staging is generally thought to be a way to control agency costs

arising from providing managers with too much capital. When investments are staged, capital is

provided sequentially conditional on performance since the previous stage. Staging of

investments occurs in several ways (see Hertzel et al., 2012). One form of staged financing,

common among start-up companies, involves the use of convertible claims, typically preferred

stock.5 As Hellman (2006) and Mayers (1998) explain, the conversion feature is attractive

because if the project (or start-up) is successful, conversion occurs, which in turn frees up

additional cash and provides a readymade exit mechanism for early-round investors. An

important advantage of convertible preferred stock over straight equity is that it provides

investors with a liquidation preference while preserving the entrepreneur’s incentive to exert

effort. Preferred stock also facilitates staging by allowing the start-up to vary liquidation

preference or other contract features by financing round.

Hellman (2006) and Black and Gilson (1998) argue that combining mandatory conversion

requirements with convertible preferred stock conveys additional benefits.6 The mandatory

conversion requirement obligates investors to convert when there is a qualified public offering

(QPO), which as Metrick and Yashuda (2011) explain, is typically a public common stock

offering that meets certain thresholds such as share price and offer proceeds. Note that the

conversion also provides sequential financing similar to the type analyzed by Mayer (1998) since

conversion frees up cash that would otherwise be used to redeem the preferred shares. The

conversion of the preferred however does not typically imply a change in voting rights since

convertible preferred stock owners typically vote on an as-converted basis.

5 Kaplan and Stromberg (2003) find that convertible preferred is the most common form of financing for VC-backed firms (appearing in over 95% of the financing rounds in their sample). 6 Most theoretical models of convertible preferred financing focus on the incentive effects of convertible preferred for both the entrepreneur and the active investors. The optimality of convertible preferred arises from convertible preferred providing incentives for the entrepreneur to exert effort and for the active investor to engage in value enhancing activities. For example, Hellman (2006) argues the optimality of convertible preferred stems from the fact that it allocates different cash flow rights to different exit decisions. When the start-up is acquired, preferred shareholders receive a payout based on their liquidation rights. If the firm goes public, the preferred converts into stock thus allowing the entrepreneur a pro rata share of the value of the firm. It should be noted that in Hellman’s model, exit through acquisition or trade sale is an inferior outcome relative to going public. Greater liquidation preferences are accorded to the investor in this case in order to compensate for the loss of liquidation preferences in the event of an IPO.

8

Most prior studies of start-up financing focus on VC-backed investments and find

widespread use of preferred shares by VC firms. There exists however, little empirical evidence

on whether convertible preferred and staged financing are widely employed for non-VC backed

firms. As discussed later in the paper, approximately 38% of the IPOs in our sample with

preferred stock outstanding were not VC backed according to the VC designation in Jay Ritter’s

IPO data base. Based on review of a random sample of 100 non-VC backed IPOs with preferred

outstanding, we find that most of the preferred issues arise in the context of investments by

private equity firms (growth capital or buyout firms) or in the context of acquisitions by the IPO

firm prior to going public (where as part of the acquisition, the acquirer issues preferred to the

managers/owners of acquired firm).7

While there are potential advantages associated with use of convertible securities with a

liquidation preference over common stock, a natural question is why do start-ups typically use

preferred stock rather than convertible debt? There are two potential reasons. First, as discussed

earlier, convertible preferred typically has voting rights on an “as converted basis”. Thus

preferred shareholders have voting rights on par with common stock holders. Second, active

involvement by debt holders in the management of the firm may expose debt holders to equitable

subordination claims in the event that the firm becomes financially distressed.8

To summarize, previous theoretical and empirical studies suggest that convertible

preferred stock is an important aspect of the staged financing of many start-up firms. Moreover,

Gompers (1995) finds that firm characteristics related to staged financing by start-ups are

characteristics that previous empirical studies have found to be associated with low leverage (See

for example Rajan and Zingales (1995), Titman and Wessels (1988) and Lemmon et al (2008).

These findings together with the mandatory conversion of preferred suggest that the magnitude

and persistence of leverage changes among IPOs may be related to the use of convertible

7 For example, as part of its IPO, Colfax Corporation, a global supplier of pumps and fluid-handling systems, converted all of its 175 million dollars in mandatory convertible preferred into common stock. According to the offering prospectus, the preferred stock had been issued in conjunction with prior acquisitions by Colfax. Another example is TA Associates’ investment in the convertible preferred of CARDTRONICs, a large ATM operator. TA Associates describes itself as a “Global Growth Private Equity Fund”. All of TA’s investment in CARDTRONIC’s convertible preferred was converted into common as part of the company’s IPO in 2007. Growth capital is a designation employed in Jay Ritter’s database to describe firms with private equity investors that are neither venture capitalists nor buyout specialists. 8 See Talyor and Sansone (2007) for a discussion of the legal liability associated with debt holders becoming actively involved in the management of a distressed firm.

9

preferred prior to the firm going public. If financing choices are persistence then we expect that

reliance on preferred stock prior to going public will be associated with greater reliance on

equity staged financing subsequent to going public. The agency concerns that give rise to staged

financing may in turn lead to different market timing behavior for firms with pre-IPO preferred

than for other IPO firms.

2. Data and Leverage Definitions

2.1 Data

The sample consists of initial public offerings (IPOs) that occur between 1975 and 2009.

The sample of IPOs and information on the IPOs was obtained from Jay Ritter’s IPO database.9

We end the sample in 2009 in order to track post-IPO issuance for two years following the IPO.

Our sample is restricted to firms for which the offer price exceeds $5.00 per share. We exclude

utility firms (SIC 4900-4999) and financial firms (SIC 6000 -6999) as well as American

Depositary Receipts, closed-end funds, unit IPOs, limited partnerships, spinoffs and REITs. This

sample of firms is matched to stock price data from CRSP and accounting data from

COMPUSTAT with the restriction that all of the firms have accounting data on book assets and

liabilities in both the year before and the year of the IPO . Firms are included in the sample until

the first year in which they exit COMPUSTAT. We exclude observations with missing sales or

that have less that $10 million (in 2011 dollars) in book assets in the IPO year. These steps yield

a set of 3,777 IPOs. See the data appendix for details.

2.2 Leverage Definitions

We examine leverage changes using the three measures of book leverage described in the

introduction (LEVPF, LEV and LEVSL). However, unlike Baker and Wurgler (2002) and Alti

(2006), we include firms with LEVPF greater than 100%.10 The reason we include these firms is

that a substantial number of firms with preferred stock outstanding have negative book equity

(since preferred shares is treated as a liability under this definition of leverage) in the year prior

9 Information on the construction of this sample can be found in Loughran and Ritter (2004) and Jay Ritter’s website. The database is based on the SDC IPO dataset, but with thousands of corrections and filling in of missing observations. 10 However, we exclude firms for which LEVSL is outside the unit interval. We exclude these firms in order to maintain comparability with earlier studies that use this definition and to minimize the effect of outliers on our results. See for example, Hovakimian, et al. (2001), Lemmon et al. (2008), and Lin and Flannery (2013).

10

to the IPO. Requiring that LEVPF be less than or equal to 100% would exclude 1,072 firms, or

28% of our sample. Of the firms that would be excluded, 88% have pre-IPO preferred shares. As

we discuss later, this arises from the fact that many start-ups finance R&D with the proceeds

from preferred share issues and, since R&D is treated as an expense, these firms have a history

of losses that deplete the book value of common equity.11

2.3 Summary Statistics

Table 1 provides summary statistics for the firms in our sample. All financial information

is for the year end prior to the firm’s IPO. To illustrate how excluding firms with LEVPF greater

than 100% affects the types of IPO firms that are included in the sample, we report in Table 1

summary statistics for the entire sample and for the sample when a LEVPF<=100% filter is

applied. The firms that are excluded when this filter is applied are different along several

dimensions. They have lower leverage using LEVSL but higher leverage using LEVPF, due to

the extensive use of preferred shares. Eighty-eight percent of the additional 1,072 firms have pre-

IPO preferred shares. Comparing columns (5) and (1) reveal that these additional IPO firms are

also significantly younger (10.5 vs. 17.4 years, t-stat for difference = -10.6), less profitable (-

9.2% EBITDA/A vs. 19.2%, t-stat for difference = -32.8), have fewer tangible assets (as

measured by PP&E where mean PP&E/Assets is 20% vs. 28.4% for the filtered sample, t-stat for

difference = -11.1) and invest more in R&D (mean R&D/Assets of 18.9% vs. 5.7% for the

filtered sample, t-stat for difference = 26.1). We also show in Table A1 in the appendix that these

differences also exist when the sample is split into firms with and without preferred shares.

Firms with preferred shares raise more capital in the IPO, belong to industries with high average

market-to-book ratios, and are more likely to be venture- or growth- capital. Overall, firms that

use preferred shares have characteristics that are typically associated with low levels of leverage.

Firms with preferred shares also have characteristics that Gompers (1995) and Hertzel et. al.

(2012) find are associated with staged financing.

11 We are not the first to point out the value-relevance of R&D spending. Lev and Sougiannis (1996) discuss how capitalizing R&D expenses predicts future returns. Guo et al. (2005) find that R&D spending and intangible assets such as the strength of patent protection and FDA approval are relevant measures for the valuation of biotech IPOs.

11

One potential explanation for the differences shown in Table 1 is that preferred stock is

just a proxy for VC backing and VC-backed firms are more likely to be firms with more

intangible assets and lower earnings. However, while it is true that firms with pre-IPO preferred

shares are more likely to be VC-backed, most of the differences we observe in Table 1 persist

after controlling for VC backing. As shown in Table A2 of the appendix, we find differences

similar to those in Table 1 for VC- and non VC-backed IPO firms.

To investigate whether firms with preferred shares outstanding prior to going public have

greater financing needs at the time of their IPO, we calculate the dollar burn rate for the IPO

firms in our sample. The dollar burn rate is calculated in the same way as in Hertzel et al. (2012),

as the difference between funds used for investment by a firm and the funds it generates from

operations in the year prior to the IPO.

1

where CAPX is capital expenditures, OIBDP is operating income before depreciation,

TXT and XINT equal total taxes paid and interest expense, respectively. The cash burn rate is

defined as the ratio of the dollar burn rate to total IPO proceeds. Note that our measure of the

dollar burn rate includes R&D expense because operating income is net of R&D.

As shown in Table 1, the average dollar burn rate for firms with LEVPF > 100% (see

column Add. Observations) is $7.1 million compared to -$1.3 million in the sample that excludes

these firms (see column With filter). The additional firms also have higher cash burn rates (9.3%

vs. 1.5%, t-stat for difference = 2.5). In fact, the median firm in the filtered sample has a negative

cash burn rate indicating that capital expenditures and R&D are less than internally generated

funds in the year prior to going public (i.e. they have positive free cash flow). Since the inverse

of the cash burn rate is simply the number of years of funding raised in the IPO, the higher the

cash burn rate, the faster the firm will “burn” through IPO proceeds. Firms in the filtered sample

would burn through their cash in 66 years compared with 10 years for firms with LEVPF >

100%. Splitting the sample by whether the firm has pre-IPO preferred shares reveals a similar

difference in cash burn rates (see Table A1).

Fewer tangible assets and greater investment in R&D among IPO firms with preferred

outstanding is consistent with the hypothesis that convertible preferred is used as part of a staged

12

financing process to mitigate overinvestment in intangible assets. Lower operating profits, high

R&D expenditures and few tangible assets are characteristics typically associated with firms that

use less leverage to fund their operations. As a result it is perhaps not surprising that we find

firms with preferred shares have significantly lower leverage defined by LEV and LEVSL. In

contrast, when LEVPF is used to measure leverage, firms with pre-IPO preferred shares have

more than double the pre-IPO leverage (134%) than firms without preferred (67%).

At this point, a natural question to ask is whether the same factors associated with the use

of preferred shares by IPO firms are associated with the use of preferred shares by established

publicly traded firms. We address this question by comparing IPO firms to public firms based

on whether or not they have preferred stock outstanding. The public firms sample consists of the

universe of publicly traded firms in COMPUSTAT from 1975 to 2009 that are not financial

institutions or regulated utilities. We report summary statistics for these firms in the third year

they appear in COMPUSTAT.12 As shown in Table 2, for publicly traded firms, the

characteristics associated with the use of preferred financing are very different from the

characteristics associated with preferred financing among IPO firms. For example, public firms

with preferred shares on average use more debt, have more tangible assets, spend less on R&D

and have lower market-to-book ratios than firms with no preferred stock outstanding. Indeed,

unlike IPO firms, public firms that use preferred shares have characteristics that are typically

associated with greater leverage and higher debt capacity (see for example Lemmon et al., 2008)

which is why preferred shares are typically considered a close substitute for debt financing.

A simple logistic regression (tabulated in the appendix in Table A3) of the likelihood of

having preferred stock outstanding on earnings, leverage, market-to-book, PPE/A, and

investment spending confirms that the characteristics that are positively associated with preferred

share financing among IPO firms are negatively associated with preferred share usage among

publicly traded companies. For example, among IPO firms, we find a positive and statistically

significant relationship between the likelihood of preferred and spending on R&D. For public

firms, we find just the opposite. The effect of leverage (measured with LEVSL) is significantly

12 Alternatively, summary statistics could be reported using every year in which these firms appear in COMPUSTAT. This would render the comparison less accurate as we only have one firm-year observation for the IPO firms (e.g. the year prior to the IPO). The comparison is robust to using every firm-year for the public firm sample, however.

13

negative for IPO firms, but it is significantly positive for public firms. Asset tangibility

(measured with PPE/A) negatively affects the incidence of preferred share financing in IPO

firms, but the effect of this variable is significantly positive for public firms. Overall these results

suggest that reasons for preferred financing among publicly traded firms are very different from

the reasons IPO firms use preferred.

2.4 Changes in Leverage Around the IPO

Panel A of Table 3 reports the evolution of average leverage from the year preceding the

IPO to 5 years after the IPO across the firms in our sample. As shown, the change in leverage in

the IPO year and in subsequent years varies with how leverage is defined. For example, using

LEVPF we find a decrease in average leverage for all firms in the IPO year of over 60% (from

95% to 37% after the IPO). In contrast, using LEV (which treats preferred shares as equity) we

find a more modest decline in leverage in the IPO year of 28% (from 64% pre-IPO to 38% after

the IPO).

Panels B and C of Table 3 provide summary statistics for the change in leverage for firms

with and without preferred shares in our sample. As is typical in studies reporting longitudinal

evidence, we report averages conditional on firms remaining in the COMPUSTAT database. In

event year +5, for example, firms that were acquired, went private, or no longer reported

financial statements following financial distress are not included if such events occur before year

+5. For all three book-leverage measures we find that the IPO is associated with a permanent

decline in leverage (although for both groups of firms leverage increases slowly in the five years

subsequent to the IPO). The decline in the LEVPF leverage measures is greater for the firms with

preferred shares outstanding prior to going public.

To investigate whether conversion of preferred leads to the significant decline in

LEVPF in the IPO year, we examine the fraction of firms that continue to have preferred

outstanding after their IPO. As shown in Table 4, 91% of firms of the firms with pre-IPO

preferred outstanding have no preferred outstanding after their IPO. For these firms with pre-IPO

preferred shares, the book value of preferred shares equals 74% of total assets in the year prior to

the IPO year. In contrast, after the IPO preferred shares are just 0.81% of total assets on average

(see Panel B). Moreover, most firms with pre-IPO preferred stock do not issue preferred after

14

they go public. Five years after the IPO, only 13% of firms with pre-IPO preferred shares have

preferred shares on their balance sheet. The increase from 9% to 13% is primarily the result of

changes in the sample of firms rather than the new issuance of preferred.

The COMPUSTAT database does not provide information on the conversion of preferred

stock. To determine whether the reduction of preferred shares outstanding results from

conversion (as opposed to the shares being repurchased or redeemed) we read the offering

prospectuses for a random sample of 100 IPO firms that had preferred stock prior to going

public. The offering prospectus provides a pro forma analysis of the effect of the IPO proceeds

on the firm’s capital structure. In every one of the sampled prospectuses the pro forma reduction

in preferred occurs because of conversion. Appendix A.2 provides several examples of the

discussion in the offering prospectus concerning conversion.

Overall our findings suggest that for about 44% of IPO firms, the magnitude of the

decline in leverage in the IPO year is quite sensitive to whether preferred shares are classified as

a debt or an equity claim when measuring leverage.13 More importantly, the potential to

mischaracterize IPO leverage changes has increased over time as the use of preferred stock by

start-ups has become more common in recent years. As shown in Figure 2, the percentage of

firms with preferred stock outstanding before their IPO has more than doubled since the early

1980’s. For example, during the 1975 through 1985 time period 20% of IPO firms had preferred

shares outstanding in the year before they went public. In contrast, from 2000 to 2009, 64% of

IPO firms had preferred shares outstanding prior to going public.14

3. Preferred Stock and Post IPO Financing Choices

The relationship between pre-IPO use of preferred and the magnitude and persistence of

leverage changes around IPOs is likely to depend on a couple of factors including: (1) the extent

to which IPOs represent a significant life cycle event related to the firm’s financing needs and

debt capacity, (2) the need for continued monitoring by providers of external capital and, (3) the

13 There are 1,673 firms with pre-IPO preferred shares in our sample out of 3,777 total IPOs. 14 The percentage of firms going public with pre-IPO preferred shares is high in some years before 1980, but the total number of IPOs is quite low during that time period: there are only 14 firms that go public in our sample between 1975 and 1979.

15

extent to which firms with different characteristics respond differently to market timing

opportunities. We investigate these factors in the next two sections.

3.1 Preferred Stock and the Frequency of Post IPO Financing

Given the importance of pre-IPO preferred shares for some firms in our sample, a natural

question to ask is whether the conditions necessitating staged financing that prevailed before the

IPO also persist after the IPO. In Table 5 we compare average investment (the sum of capital

expenditures and R&D), capital expenditures, and research and development expenses as a

fraction of book assets of firms with preferred to the expenditures of other IPO firms. As shown,

firms with pre-IPO preferred shares continue to invest more than their counterparts in the five

years after going public. The higher rate of investment for these firms is the result of higher

spending on R&D and not higher capital expenditures. Also notice that for firms with preferred

shares, the dollar burn rate as a fraction of their assets is over twice that of firms without pre-IPO

preferred shares, which suggests that the firms in this group continue to require additional

external financing. Overall, the results in Table 5 indicate the greater financing needs of firms

with preferred stock at the time they go public continue well after the IPO.

We next investigate the extent to which firms with pre-IPO preferred shares meet their

greater financing needs through staged equity financing. We assess the use of staged financing

by examining follow-on offerings after the IPO. We define a follow-on issue as a security issue

that occurs at least 30 days after the IPO. 15 Firms that were acquired or delisted prior to an

issuance date are deemed not to have undertaken a follow-on issue. We obtain information on

security issuances for the firms in our sample from SDC (public and private equity and debt

issues) and Dealscan (bank loans). Dealscan packages that do not have a term loan are not

included as follow-on financing transactions. The reason is that credit line facilities may be

drawn or undrawn (Dealscan does not specify which) and these types of facilities are typically

used for short-term liquidity rather than for permanent financing.16

To examine whether the frequency of follow-on issues is greater for firms with preferred

stock, we estimate a Poisson regression of the relation between the frequency of follow-on issues

15 We use this cutoff to insure that follow-on financings are not part of the initial financing event related to the IPO. 16 We use a table provided by Michael Roberts to link Dealscan packages to our sample of IPOs. This table is based on Chava and Roberts (2008).

16

and the use of pre-IPO preferred stock, controlling for firm characteristics and the firm’s cash

burn rate at the time of the IPO. The regression specification is similar to the one used by Hertzel

et al. (2012). We also estimate a hazard model of the time or duration until the first follow-on

financing event that occurs within 24 months of the IPO. However, the advantage of the Poisson

model is that this model distinguishes between firms that undertake multiple follow-on issues

after the IPO from firms that undertake only one follow-on issue subsequent to the IPO. In this

respect, modeling the frequency of events rather than the time until the first event is a more

accurate measure of staged financing. Both models include industry and IPO-year dummy

variables.

Included in both types of model are the first-day return (RET1), the return over the next

20 days (RET20) and dummy variables for whether IPO volume in the month of the IPO is in the

upper or lower 1/3 of the distribution of monthly volume in our sample. As in Hertzel et al. we

include these variables to control for possible signaling, market timing or discovery effects that

might motivate follow-on offers. Also included are controls for asset tangibility and VC

financing. Note that capital expenditures, R&D spending and IPO proceeds are contained in the

regressions because these variables are components of the cash burn rate. See equation (1).

Table 6 presents the regression results. Not surprisingly, an important determinant of

follow-on issues is financing needs: the coefficient on the cash burn rate in column 1 is positive

and statistically significant at the .01 level. Poisson regression coefficients measure semi-

elasticities of the frequency of issues to changes in the independent variable. The economic

significance of a variable can therefore be measured as the product of the coefficient estimate

multiplied by one standard deviation times 100. The cash burn rate estimate implies that a one-

standard deviation increase in the cash burn rate increases the number of follow-on issues per

year by over 12% (see Panel B). Columns two and three show that firms with preferred shares

have significantly higher frequencies of follow-on issues. The coefficient on the preferred share

dummy in column 3 implies that controlling for firm characteristics, the frequency of follow-on

issuances is 25.2% greater for firms with preferred shares (see Panel B). 17

17 The significance of preferred shares in the Poisson regression also addresses a methodological issue in studies of staging raised by Da Rin, Hellmann, and Puri (2011). Standard measures of staging such as the number of VC rounds or the time between rounds measure the ex-post realization of staging rather than the ex-ante intent of

17

The last regression specification (model (4)) restricts the sample period to IPOs filed after

1995. The reason for doing so is that Dealscan coverage of bank loans prior to that year is sparse.

The sign, statistical significance, and economic significance of the variables remains unchanged

when the sample is restricted to this time period.

The joint significance of preferred shares and the cash burn rate in both the Poisson and

hazard model regressions suggests that preferred shares are measuring a factor that is distinct

from the firm’s investment-opportunity set, as measured by the cash burn rate. One possibility is

that preferred shares measure institutional monitoring of overinvestment after the IPO that is not

measured by components of the cash burn rate such as R&D spending. For this explanation to

hold, preferred share investors must hold on to their common equity after the IPO. Results from

prior studies and observed equity ownership concentration after the IPO in our sample suggest

that this is likely to be the case. Barry et al. (1990) report that VC investors maintain their

investment in the firm for up to a year after the IPO, and serve on the boards of their firms after

the IPO. Cao (2011) finds that buyout sponsors of reverse LBOs continue to hold a substantial

fraction of equity up to 3 years after the IPO (about 23%, down from 40% in the IPO year).

Huang et al. (2013) find that VC investors in their sample hold about 8% of the equity in year 3

following the IPO, down from 16% at the end of the IPO year. In untabulated results, we also

find that ownership concentration after the IPO is significantly greater for firms with pre-IPO

preferred stocks. Based on 13-F filings, the median Herfindahl-Hirschleifer index value is

significantly greater for firms with preferred shares than for firms without preferred shares in

quarters 2 to 8 following the IPO.

3.2 Preferred Stock and the Type of Follow-On Issues

We next examine differences in the type of follow-on issues between firms with and

without preferred stock prior to going public. Given that firms in the preferred sample invest

more in R&D and have significantly lower operating cash flows and fewer tangible assets, we

would expect these firms to rely more heavily on staged equity financing.

staging. Preferred shares do not suffer from this drawback because they are issued before the realization of private- and public-market staging.

18

Table 7 provides summary statistics by type of security used in follow-on issues that

occur within 24 months of the IPO. Because Dealscan’s coverage of bank loans is limited prior

to 1994, we restrict this part of the analysis of post IPO financing to the 1994 through 2009 time

period. This restriction reduces our sample to 1,827 firms; 721 of which undertook at least one

follow-on offering, for a total of 1,307 follow-on offerings. Table 7 also provides the number of

follow-on issues by type of issue for the overall sample and the average principal amount of the

offering relative to the firm’s cash needs at the time of the offering (i.e. the at-issue cash burn

rate as defined earlier).

Across all firms, the majority (46.2%) of follow-on issues are public equity offerings.

The next most common financing are term loans made by banks (24.1%). Reliance on new

equity and debt financing differs significantly between firms with and without pre-IPO preferred

financing. Consistent with greater reliance on public- equity staged financing, the percentage of

firms with follow on equity offerings is significantly greater in the preferred group. For example,

conditional on a follow-on offering, 68% of the firms with preferred shares issue equity

compared with 58% of the follow-on offerings by the firms without preferred shares (the

difference is significant at the 1% level if independence between the two samples is assumed).

Half of this difference comes from the greater incidence of private equity issues by firms with

preferred. In contrast, only 20% of follow-on issues by firms with pre-IPO preferred shares are

bank-term loans compared with 29% for firms without pre-IPO preferred shares. The difference

is significant at the 1% level. This difference is inconsistent with the hypothesis that that firms

with pre-IPO preferred are more likely to substitute bank debt for preferred stock that was used

before going public.

Table 7 also provides evidence of greater reliance on staged financing after firms with

preferred shares go public. For example, notice that for the total sample, the at-issue cash burn

rates are significantly higher for firms in the preferred group. The difference in cash burn rates is

entirely driven by equity issues, regardless of type. The higher cash burn rates also arise from

much higher cash needs and not from smaller offerings for firms in the preferred sample. Indeed,

unreported results show that the average size of public equity offering (relative to book assets) is

significantly larger for the preferred group than the group without preferred.

19

The term to maturity and financial covenants associated with bank loan contracts are

widely viewed ways of providing creditors state contingent control rights. If overinvestment

concerns motivate the greater reliance on staged financing among firms with pre-IPO preferred

stock, we would expect that conditional on borrowing, bank funding would be more state

contingent, i.e. more contingent on the performance of the borrowing firm. To investigate this

issue, we obtain from Dealscan information on the term to maturity and the number of financial

covenants for loans made 12 months prior to 24 months after the IPO for the firms in our

sample.18

In the appendix (see Table A4) we report the results of multivariate regressions relating

the number of financial covenants and loan term to maturity to firm financial characteristics as

well as whether or not the firm had preferred stock outstanding before going public. Consistent

with the contracting cost argument described in Barclay and Smith (1995), we find that the

number of covenants is greater, and that the maturity of debt is significantly shorter for firms in

the preferred stock group. Overall these results are consistent with the argument that agency

concerns lead to more contingent performance-based funding for firms with preferred shares

outstanding at the time of their IPO.

Summarizing the results of this section, firms that engage in staged financing prior to

going public continue to engage in staged financing after their IPO, as displayed by the greater

frequency of issuance after the IPO by these firms and conditional on issue, higher cash burn

rates. Moreover we find no evidence that firms with preferred stock prior to going public have a

greater propensity to use debt financing after they go public.

4. Market Timing and Persistence in Leverage After the IPO

Alti (2006) finds that market timing is a significant, although transitory, determinant of

capital structure: the effects of IPO year timing on leverage do not last more than 2 years in his

sample. Alti’s measure of market timing is whether the IPO occurs in a hot-issue market, defined

18 Nini, Smith and Sufi (2011) and Chava and Roberts (2008) argue that financial covenants provide lenders with state contingent control rights. The idea is that the violation of a financial covenant (a so called technical default) shifts control rights to bank lenders, who use the threat of the withdrawal of funding as a way of influencing the borrower’s investment decisions. Barclay and Smith (1995) and Guedes and Opler (1996) argue that shortening the term to maturity of a firm’s debt increases the information sensitivity of a firm’s cost of debt financing, thus reducing under- and over-investment problems

20

as a month in which there are a large number of issues relative to the de-trended monthly average

IPO volume during his sample period. In this section, we compare the effect and persistence of

measures of market timing used in Alti’s study on the size of the IPO proceeds and on changes in

capital structure around the time of the IPO. We also use Alti’s measure of market timing to

investigate whether active investors have a greater propensity to engage in market timing and

whether market timing differences explain changes in leverage around the IPO.

As discussed earlier, greater concerns with potential overinvestment problems may lead

firms with preferred stock outstanding to be less sensitive to overvaluation because investors

prefer to stage their investments in these types of firms, even in markets with low adverse

selection problems (i.e. in hot IPO markets). The basic idea is that investors are sensitive to the

potential for overinvestment by the firms’ managers, and as a result concerns related to agency

issues within these firms temper investors’ enthusiasm for the company’s shares in hot IPO

markets. The overinvestment hypothesis predicts a lower supply elasticity of new capital for

firms that have pre-IPO preferred shares than for firms without pre-IPO preferred shares.

Alternatively, capital market sophistication may lead active investors to more vigorously exploit

perceived market timing opportunities.

We employ Alti’s Hot-Cold market classification as a measure of market timing. We use

this classification for a couple of reasons. First, as discussed frequently in the literature, timing

measures such as past market-to-book ratios (Baker and Wurgler, 2002) or post IPO market

returns (Loughran and Ritter, 1995) are open to alternative interpretations. For example, current

market-to-book may be a noisy proxy for current investment opportunities and market conditions

leading to a spurious link between market timing and investment opportunities. This is a

particular concern when investigating differences in the propensity to market time between firms

with very different growth and investment opportunities, which appears to be the case for firms

grouped by the use of preferred stock. Second, Alti’s analysis focuses specifically on market

timing and the impact on capital structure changes around IPOs—the focus of our study.

An obvious drawback of the Hot-Cold market classification is that it may not capture the

full extent of market timing. Specifically, market timing can be motivated by market or sector

wide overvaluation, or by firm specific overvaluation. Hot-issue markets are more likely to be

associated with the former than the latter. However, this is less of a concern in the context of our

21

analysis because we are interested in the differences in the propensity to market time and not on

the overall importance of market timing for capital structure choice.

We test the hypotheses concerning market timing using the following regression model,

where the dependent variable is the ratio of gross IPO proceeds to book assets (in percentage

points) in the IPO year.

, (3)

where HOT is Alti’s measure of hot IPO markets and , is a vector of controls that describes

the firm’s characteristics at the time it goes public. If overinvestment concerns lead to lower

supply elasticities then we would expect the coefficient on HOT to be significantly greater for

firms without pre-IPO preferred shares than for firms with pre-IPO preferred shares.

Table 8 provides estimates of the relationship between offer proceeds and hot-issue

markets. To examine if the results are sensitive to whether the sample is limited to firms with

LEVPF<=100, we report regression results with and without the LEVPF filter. As shown, the

impact of hot-issue markets on offer proceeds is significantly greater when the narrow sample is

used. The ratio of proceeds to book assets is 5.11% greater in hot IPO markets for the filtered

sample compared with 2.98% for the unfiltered sample. (p-value for the difference in

coefficients = 1%, see panel B). Not using the filter substantially reduces the impact of hot-issue

markets on offer proceeds because, consistent with the agency-cost hypothesis, offer proceeds

are significantly less sensitive to hot-issue markets for firms with preferred shares outstanding.

As shown in Table 8, firms with pre-IPO preferred stock do not appear to time the IPO

market. In particular, the coefficient estimates on HOT are greater for firms without preferred

shares in both the filtered and unfiltered samples. In the unfiltered sample, IPO proceeds as a

fraction of book assets are 5.11% greater during hot markets for firms without preferred (t-

stat=3.35) compared with only 1.01% for firms with preferred stock (t-stat=0.53). These two

coefficients are significantly different at the 10% level of confidence (see Panel B). Overall, the

finding that firms with preferred do not increase their offer size during hot issues market is

consistent with the agency-cost hypothesis. For firms with pre-IPO preferred shares, we find no

evidence that they time hot markets.

22

4.1 Market-timing and Capital Structure Changes

The lack of any significant relationship between IPO offer proceeds and hot market

conditions for firms with preferred shares suggests that market timing may have less of an

impact on the capital structure of these firms. We investigate the impact of hot-issue markets on

leverage for these two groups of firms by regressing IPO-year changes in leverage (measured

with LEVPF or LEVSL) on HOT and a set of control variables. Again, in order to illustrate the

sensitivity of market timing to restricting the sample to firms with LEVPF <=100, we provide

regression results for the entire sample as well as the restricted sample. The first column of Table

9 provides estimates of the market timing regression using the restricted sample and Alti’s

definition of leverage (LEVPF). As shown, leverage is 1.58% lower in hot markets (the

difference is only marginally significant with a t-statistic= – 1.78). In comparison, Alti’s estimate

of the hot-market effect on leverage is -3.57%.

Recall that Alti’s sample ends in 1999 so that part of the reason we find less hot-issue

market timing is that our sample period is different. Overall we find evidence that market timing

is much stronger early in the sample period. To illustrate this, in Table 10 we report estimates of

the leverage regression using a sample of IPOs from the 1980-2009 time period. As shown in

Table 10, we find little evidence of a significant decline in leverage during hot-issue markets for

the overall sample, regardless of which measure of leverage we use. See columns (1), (4) and (7).

Both tables 9 and 10 do not show any significant relationship between leverage changes

and hot-market conditions for the unfiltered sample (see column 4 in each table). This result

arises because the broader sample includes more firms with preferred shares outstanding and as

shown, we find no evidence that hot issues markets are related to leverage changes for these

firms. Comparing columns 5 and 6 in Table 9 (as well as columns 8 and 9) reveals the effect of

market timing is entirely driven by firms without preferred shares. In particular, as shown in

column five, the coefficient on HOT implies that leverage of firms with no preferred shares is

2.33% lower in hot IPO markets (t-statistic=-2.25). However for firms with preferred shares we

find no significant relationship between leverage changes and market conditions.

The lack of any significant market timing effects on capital structure in the overall

sample appears to be due to the increasing use of staged financing by professional investors over

23

time, as measured by the use of preferred shares. From 1975-1999, only 40% of IPOs had pre-

IPO preferred shares, compared with 64% over 2000-2009. The difference in frequencies across

the two sample periods is significant at the 1% level (t-stat=10.9). Similarly, we find (using the

filtered sample with LEVPF) that during 1975-1984, leverage fell significantly in hot-market

IPOs, compared with no significant effect of hot markets during 1985-2009. The corresponding

frequencies of IPO firms with preferred shares were 19% and 45% during these two sample

periods. We obtain similar results when the sample is split into pre- and post-1989 issues.

We also investigate whether the findings of Baker and Wurgler (2002) concerning

market timing are sensitive to the filters used to construct the sample. In addition, we examine

whether there are differences between firms without and with preferred shares in the propensity

to market time using Baker and Wurgler’s identification strategy. Specifically, Baker and

Wurgler examine the relationship between leverage and the issue-weighted average market-to-

book ratio from the time of a firm’s IPO. As shown in Table 11, we find that the impact of

market timing in the IPO year is significantly less (although still statistically significant) when

the LEVPF filter is not used and preferred is not treated as a debt claim. In addition, consistent

with the findings reported in Table 9, we find that the effect of issue-weighted market-to-book is

significantly smaller in absolute value (although still statistically significant) for firms with pre-

IPO preferred stock.

5. Conclusion

In most studies of capital structure, whether preferred stock is treated as debt or equity is

relatively innocuous, partly because few publicly traded U.S. firms have preferred stock

outstanding, and for those with preferred stock, this type of security is generally a small fraction

of total equity. For nearly half of companies going public, however, the common practice of

including preferred as debt is not innocuous. Almost all VC-backed IPOs have large amounts of

convertible preferred stock outstanding prior to the IPO, and this preferred stock almost always

has a mandatory conversion feature conditional on going public.

We find significant differences in both the magnitude of leverage changes and the

importance of market timing based on whether or not preferred stock is treated as debt or equity

prior to the IPO. When preferred shares are treated as debt, restricting the sample of IPOs to

24

firms with leverage ratios less or equal to 100% biases the sample toward more mature and

profitable firms. Treating preferred shares as equity removes this restriction because the

excluded firms typically have a history of losses prior to the IPO. Our results show that including

these firms significantly reduces the effect of market timing in the overall sample. The reason is

that firms with preferred shares are engaged in staged financing after the IPO and overinvestment

concerns prevent these firms from engaging in market timing to the same extent as other IPO

firms.

Firms with preferred also have different characteristics that persist and shape their

financing activities after going public. These firms go public at an earlier time in their corporate

life-cycle and are more likely to stage their capital raising activities after the IPO. These firms

have a marked preference for equity instead of debt due to the intangible nature of their

investments. Debt issues by these firms have more covenants and shorter maturities, which is

consistent with the greater need for monitoring by these firms. Finally, our results show that

leverage exhibits a path dependency that begins well before a firm goes public, despite changes

that occur in a firm’s operating environment and ownership structure during that time.

25

References

Alti, A., 2006. How persistent is the impact of market timing on capital structure? The Journal of Finance 61, 1681-1710.

Baker, M., and J. Wurgler, 2002. Market timing and capital structure. The Journal of Finance 57, 1-32.

Ball, E., Chiu, H,H, and R. Smith. 2011. Can VCs time the market? An analysis of exit choice for venture-backed firms. Review of Financial Studies 24, 3105-3138.

Barclay, M.J, and C.W. Smith, 1995. The maturity structure of corporate debt, Journal of Finance, 50, 609-631.

Barry, C.B., Muscarella, C.J., Peavy III, J.W., and M.R. Vetsuypens, 1990. The role of venture capital in the creation of public companies. Journal of Financial Economics 27, 447-471.

Baruch, L. and T. Sougiannis, 1996. The capitalization, amortization, and value-relevance of R&D. Journal of Accounting and Economics 21, 107-138.

Black, B. and R.J. Gilson, 1998. Venture capital and the structure of capital markets: banks versus stock markets, Journal of Financial Economics 47, 243-277

Cao, J.X., 2011, IPO timing, buyout sponsors’ exit strategies, and firm performance of RLBOs, Journal of Financial and Quantitative Analysis 46, 1001-1024.

Chava, S., and M.R. Roberts, 2008. How does financing impact investment? The role of debt covenants, The Journal of Finance 63, 2085-2121.

Da Rin, M., T Hellmann and M Puri, 2013. A survey of venture capital research in Handbook of the Economics of Finance, G. Constantides, M Harris and R Stulz eds. Elsevier Science.

DeAngelo, H., DeAngelo L., and R. Stulz, 2006. Dividend policy and the earned/contribuyted capital mix: a test of the life-cycle theory. Journal of Financial Economics 81, 227-254.

DeAngelo, H., DeAngelo L., and R. Stulz, 2010. Seasoned equity offerings, market timing, and the corporate lifecycle. Journal of Financial Economics 95, 275-295.

Diamond, D., 1991. Monitory and reputation: the choice between bank loans and directly placed debt. Journal of Political Economy 99, 688-721.

Gompers, P.A., 1995. Optimal investment, monitoring, and the staging of venture capital. The Journal of Finance 50, 1461-1489.

26

Guedes, J. and T. Opler, 1996. The determinants of the maturity of corporate debt issues, The Journal of Finance 51, 1809-1833.

Guo, R.-J. Lev, B., and N. Zhou, 2005. The valuation of biotech IPOs. Journal of Accounting, Auditing & Finance 20, 423-459.

Hellmann T. and M. Puri, 2002. Venture capital and the professionalization of start-up firms: empirical evidence. The Journal of Finance 57, 169-197.

Hellmann, T., 2006. IPOs, acquisitions, and the use of convertible securities in venture capital. Journal of Financial Economics 81, 649-679.

Hertzel, M.G., Huson M.R., and R. Parrino, 2012. Public market staging: the timing of capital infusions in newly public firms. Journal of Financial Economics 106, 72-90.

Hovakimian, A., T. Opler and S. Titman, 2001. The debt-equity choice. Journal of Financial and Quantitative Analysis 36, 1-24.

Huang, R., Zhang, D. and J.R. Ritter, 2013, Private equity firms’ reputational concerns and the cost of debt financing, unpublished working paper.

Kaplan, S.N., and P. Stromberg, 2003. Financial contracting theory meets the real world: an empirical analysis of venture capital contracts. Review of Economic Studies 70, 281-315.

Kayhan A., and S. Titman, 2007. Firms’ histories and their capital structures. Journal of Financial Economics 83, 1-22.

Korajczyk, R.A., and A. Levy, 2003. Capital structure choice: macroeconomic conditions and financial constraints. Journal of Financial Economics 68, 75-109.

Lemmon, M.L., Roberts M.R., and J.F. Zender, 2008. Back to the beginning: persistence and the cross-section of corporate capital structure. The Journal of Finance 63, 1575-1608.

Lin, L. and M.J. Flannery, 2013. Do personal taxes affect capital structure? Evidence from the 2003 tax cut, Journal of Financial Economics 109, 549-565.

Loughran, T., and J. Ritter,1995. The new issue puzzle. The Journal of Finance 50, 23-51.

Loughran, T., and J. Ritter, 2004. Why has IPO underpricing changed over time? Financial Management 33, 5-37.

Mayers, D., 1998. Why firms issue convertible bonds: the matching of financial and real investment options. Journal of Financial Economics 47, 83-102.

Metrick A., and A.Yasuda, 2011. Venture capital and the finance of innovation, second edition, John Wiley and Sons.

27

Myers, S., 1977. Determinants of corporate buying, Journal of Financial Economics 5, 147-175.

Nini G., Smith, D. and A. Sufi, 2009. Creditor control rights and firm investment policy, Journal of Financial Economics 92,400-420

Rajan R., and L. Zingales, 1995, What do we know about capital structure? Some evidence from international data, The Journal of Finance 50, 1421 -1460.

Sahlman, W., 1990. The structure and governance of venture capital organizations. Journal of Financial Economics 27, 473-524.

Sahlman, W. 1988, Aspects of financial contracting in venture capital. Journal of Applied Corporate Finance 1, 23-36.

Titman, S., and R. Wessels, 1988. The determinants of capital structure choice. The Journal of Finance 43, 1-19.

Talyor, A. and A. Sansone 2007 eds. Loan Syndication and Trading. McGraw Hill.

28

Figure 1: Average leverage of firms going public in event time around the IPO. This figure plots average leverage in event time around the IPO for IPOs occurring between 1975and 2009. Year 0 is the year of the IPO. Leverage is the ratio of book debt to book assets. For leverage (LEVPF), book debt includes preferred shares. For leverage (LEV), book debt excludes preferred shares. For leverage (LEVSL) book debt is the sum of short- and long-term debt.

29

Figure 2: Number of IPOs per year. IPO volume is reported in the left-hand side axis. The percentage of IPOs that are undertaken by firms with pre-IPO preferred shares (WITH PREF(%)) is reported in the right-hand side axis.

0.0

20.0

40.0

60.0

80.0

100.0

120.0

0

50

100

150

200

250

300

350

400

WITH PREF(%

)

Nb. IPOs

Nb. IPOs WITH PREF(%)

30

Table 1 Summary statistics – IPO firms

This table reports summary statistics of firm characteristics in the year preceding the IPO, except for RET1, PROCEEDS, VC, TECH, and Age which are measured at the time of the IPO. Returns and financial ratios except for MB are in percentage points. The sample With filter excludes observations for which the ratio of book debt to total assets (LEVPF) exceeds 100%. The additional observations in column (5) and (6) are the incremental observations that result from removing this filter. Book debt is the sum of total liabilities and preferred shares minus convertible debt and deferred taxes. Book leverage LEVPF is the ratio of book debt to total assets. LEV is the ratio of book debt less preferred shares to book assets. LEVSL is the ratio of short term and long-term debt to total assets. Market-to-book (MB) is defined as book debt plus the market value of equity divided by total assets. Profitability, EBITDA, is defined as earnings before interest, taxes and depreciation. CAPX denotes capital expenditures, RD is research and development expense. INV is the sum of CAPX and RD, where missing values of RD are set to zero. PROCEEDS equals the IPO proceeds in millions of 2011 dollars and includes primary and secondary shares but assumes that over-allotment options are not exercised. RET1 is the first-day return on the IPO day. Log(SALE) is the log of sales in millions of 2011 dollars. VC is a dummy for whether the firm had venture-capital financing prior to the IPO. TECH is a dummy for whether the firm is in the technology industry. Age is the founding age of the firm at the time of the IPO. MB (SIC3 pre-IPO) equals the mean market-to-book ratio in the issuing firm’s industry in the year prior to the IPO. PPE is property, plant and equipment. The dollar burn rate (DBR) is the difference between capital expenditures and operating cash flows in the year prior to the IPO in millions of 2011 dollars. Cash burn rate is ratio of the dollar burn rate to total proceeds. DBR/Cash is the ratio of the dollar burn rate to the firm’s cash holdings in the year prior to the IPO. The column labeled TSTAT reports t-statistics for the difference in means across firms in columns (1) and (5).

Continued on next page.

31

With filter (N=2,705) Without filter (N=3,777) Add. Observations (N=1,072) T-STAT

MEAN MEDIAN MEAN MEDIAN MEAN MEDIAN Col. (1) vs. Col. (5)

(1) (2) (3) (4) (5) (6) (7)

LEVPF 67.4 70.5 97.1 81.2 172.1 143.7 60.6

LEV 62.8 65.6 64.2 64.8 67.9 60.9 5.1

LEVSL 33.3 32.7 32.2 28.7 29.4 18.3 -4.4

EBITDA/A 19.2 19.1 11.1 16.0 -9.2 -1.0 -32.8

PPE/A 28.4 21.8 26.0 18.8 20.0 14.1 -11.1

INV/A 16.2 11.1 19.5 13.8 27.8 25.1 18.4

CAPX/A 10.6 6.7 10.1 6.3 8.9 5.6 -4.0

RD/A 5.7 0.0 9.4 0.0 18.9 14.8 26.1

PROCEEDS 82.3 39.8 83.6 45.5 87.2 58.4 0.7

RET1 13.5 6.3 17.0 7.4 25.8 10.9 10.1

Log(SALE) 4.2 4.2 3.9 3.9 3.3 3.3 -16.3

VC 0.25 0.0 0.37 0.0 0.68 1.0 26.9

TECH 0.33 0.0 0.40 0.0 0.59 1.0 15.0

AGE 17.4 10.0 15.5 9.0 10.5 6.0 -10.6

MB(SIC3 pre-IPO) 2.2 2.0 2.4 2.2 2.9 2.8 20.4

Dollar burn rate (DBR) -1.3 -1.3 1.1 -0.6 7.1 3.3 3.6

Cash burn rate 1.5 -4.6 3.7 -1.9 9.3 6.5 2.5

DBR / Cash -41.8 -35.4 -15.6 -16.0 41.3 46.5 12.5

WITH PREF 0.27 0.0 0.44 0.0 0.88 1.0 41.2

32

Table 2 Summary statistics – public firms

This table reports summary statistics of firm characteristics and information on the composition of the sample of publicly traded firms excluding financials and utilities. Firm characteristics are taken in the third year the firm shows up in COMPUSTAT for the 1975-2009 period. Returns and financial ratios except for MB are in percentage terms. Book debt is the sum of total liabilities and preferred shares minus convertible debt and deferred taxes. Book leverage LEVPF is the ratio of book debt to total debt. LEV is the ratio of book debt less preferred shares to book assets. LEVSL is the ratio of short term and long-term debt to total assets. Market-to-book, MB, is defined as book debt plus the market value of equity divided by total assets. Profitability, EBITDA, is defined as earnings before interest, taxes and depreciation. CAPX is capital expenditures, RD is research and development expense. INV is the sum of CAPX and RD, where missing values of RD are set to zero. Log(SALE) is the log of sales in millions of 2011 dollars. PPE is property, plant and equipment. The column labeled TSTAT reports t-statistics for the difference in means across firms without preferred shares and firms with preferred shares.

NO PREF WITH PREF

MEAN MEDIAN MEAN MEDIAN TSTAT

LEVPF 43.32 41.52 67.68 60.56 -37.26

LEV 43.32 41.52 53.90 51.97 -17.92

LEVSL 23.07 19.38 32.38 30.41 -18.64

EBITDA/A 8.17 11.47 5.19 10.10 6.83

PPE/A 31.32 24.32 34.28 29.05 -5.04

INV/A 12.17 8.92 10.06 6.93 8.24

CAPX/A 8.20 5.36 7.35 4.98 4.16

R&D/A 3.92 0.00 2.65 0.00 6.96

Log(SALE) 4.79 4.75 5.31 5.30 -11.02

MB 1.68 1.26 1.46 1.11 7.45

AT 695.48 63.72 902.82 87.29 -1.66

PREF/A 0.00 0.00 13.78 4.78 -49.67

N 11704 2080

33

Table 3 Evolution of leverage after the IPO

Panel A reports mean cumulative change in leverage since the year preceding the IPO for measures of book leverage and the IPO year for measures of market leverage. All leverage ratios are in percentage points. LEVPF equals the ratio of book debt to total assets. LEVSL is the sum of short- and long-term debt to total assets. LEV is the ratio of book debt less preferred shares to book assets. LEVM is market leverage, defined as the ratio of the sum of short- and long-term debt to the market value of assets. Panels B and C report mean values for the subsamples of firms without and with pre-IPO preferred shares, respectively. Panel C also tests for the difference in means between firms with and without pre-IPO preferred shares. *** indicates significance at the 1% level, ** at the 5% level and * at the 10% level.

Panel A: All firms

TIME LEVPF-LEVPF(pre-IPO) LEV-LEV(pre-IPO) LEVSL-LEVSL(pre-IPO) LEVM-LEVM(IPO)

0 -60.89 -28.42 -16.59 0.00

1 -55.63 -25.20 -13.30 5.31

2 -52.24 -23.00 -11.71 8.37

3 -50.06 -21.07 -10.88 10.25

4 -47.15 -19.89 -10.13 12.40

5 -44.90 -19.62 -10.40 12.60

Panel B: Firms without pre-IPO preferred shares

TIME LEVPF-LEVPF(pre-IPO) LEV-LEV(pre-IPO) LEVSL-LEVSL(pre-IPO) LEVM-LEVM(IPO)

0 -28.73 -28.80 -17.75 0.00

1 -25.39 -25.65 -13.62 6.44

2 -22.77 -23.18 -11.70 9.85

3 -20.80 -21.62 -10.81 12.50

4 -20.04 -20.76 -10.26 14.93

5 -19.53 -20.41 -10.59 15.65

Panel C: Firms with pre-IPO preferred shares

TIME LEVPF-LEVPF(pre-IPO) LEV-LEV(pre-IPO) LEVSL-LEVSL(pre-IPO) LEVM-LEVM(IPO)

0 -101.34*** -27.94 -15.13***

1 -94.91*** -24.63 -12.90 3.83***

2 -91.66*** -22.75 -11.73 6.38***

3 -89.84*** -20.32 -10.97 7.19***

4 -84.75*** -18.69* -9.95 8.90***

5 -81.56*** -18.47 -10.14 8.19***

34

Table 4 Proportion of preferred shares for firms with preferred shares in the pre-IPO year

This table reports summary statistics on the use of preferred shares by firms that report having preferred shares in the fiscal year preceding the IPO. Dummy: PREF>0 equals one if the firm has preferred shares. PREF/A is the ratio of preferred shares to total assets (in pct. points). PREF/A, PREF>0 is the average amount of preferred shares to book assets, conditional on having preferred shares. N NO PREF and N WITH PREF are the number of firms without and with preferred shares in a given year. Time is in fiscal years relative to the year the firm goes public (year 0).

Time Dummy: PREF>0 PREF/A

PREF/A, PREF>0

N NO PREF

N WITH PREF

-1 1.00 74.21 74.21 0 1673

0 0.10 0.81 8.54 1514 159

1 0.09 0.86 9.44 1371 137

2 0.10 1.04 10.53 1187 130

3 0.11 1.90 17.30 1027 127

4 0.12 2.16 18.47 897 119

5 0.13 2.58 20.23 753 110

35

Table 5 Evolution of investment and internal financing resources after the IPO as a percentage of assets

This table reports the mean value in event time relative to the IPO year (year 0). OCF denotes operating cash flows. All other variables are defined in Table 1. The stars in Panel C test for the difference in means between Panels B and C. *** indicates significance at the 1% level of confidence, ** at the 5% and * at the 10% level.

Panel A: All firms

Time INV/A CAPX/A R&D/A Dollar burn rate / A OCF/A

-1 19.52 10.10 9.42 5.59 4.51

0 14.01 9.30 4.71 3.94 5.47

1 15.82 9.85 5.97 6.83 3.17

2 14.49 8.08 6.40 5.63 2.57

3 13.75 7.17 6.58 4.17 3.04

4 13.18 6.67 6.50 3.12 3.60

5 12.67 6.23 6.44 2.01 4.27

Panel B: Firms without pre-IPO preferred shares

Time INV/A CAPX/A R&D/A Dollar burn rate / A OCF/A

-1 15.90 10.81 5.08 -1.02 11.83

0 13.48 10.68 2.80 2.01 8.76

1 14.63 11.05 3.58 5.52 5.68

2 12.64 8.81 3.83 4.09 4.81

3 11.35 7.71 3.64 2.70 4.98

4 11.07 7.21 3.85 2.21 4.95

5 10.28 6.43 3.85 0.84 5.58

Continued on next page.

36

Panel C: Firms with pre-IPO preferred shares

Time INV/A CAPX/A R&D/A Dollar burn rate / A OCF/A

-1 24.07*** 9.20*** 14.87*** 13.90*** -4.71***

0 14.68*** 7.56*** 7.11*** 6.40*** 1.27***

1 17.37*** 8.29*** 9.08*** 8.59*** -0.17***

2 16.96*** 7.11*** 9.85*** 7.79*** -0.56***

3 17.02*** 6.44*** 10.58*** 6.30*** 0.23***

4 16.11*** 5.92*** 10.18*** 4.46*** 1.61***

5 16.14*** 5.95 10.19*** 3.80*** 2.27***

37

Table 6 Hazard and count model analysis of follow-on issues during the 24-month period following the IPO

Panel A of this table reports Poisson and Hazard model regression estimates of the frequency of follow-on issues within 24 months of the IPO. Follow-on issues that occur within 30 days of the IPO are excluded. The reported estimates are based on maximum likelihood estimates of a Poisson count model or MLE estimates of an exponential hazard model with frailty. Heteroskedasticity robust t-statistics are in parentheses. RET20 is the 20-day stock return of the IPO firm in percentage points. Primary fraction is the fraction of primary shares in the IPO. The high and low IPO volume dummy variables indicate whether an IPO occurred during a month when monthly IPO volume was in either the top or bottom 1/3 of the distribution for the sample. The other independent variables are defined in Table 1. Panel B reports the economic significance (in percent) of select variables, measured as the semi-elasticity times one standard deviation change in the variable for continuous variables, and times a one-unit change for binary variables. For the Poisson model, the semi-elasticity for continuous variables equals 100 times the regression coefficient. The semi-elasticity for dummy variables equals 100 times (exp( -1). The hazard-model semi-elasticity equals 100 times the coefficient estimate. All models contain industry (3-digit SIC) and year (IPO-year) dummy variables. Regression models (4) cover the 1995-2009 sample period.

Continued on next page.

38

Panel A: Coefficient estimates

Poisson count model estimates Hazard model estimates

(1) (2) (3) (4) (1) (2) (3) (4)

PPE/A (decimal) 0.14 0.34 0.16 0.34 0.12 0.51 0.11 -0.08

(0.84) (2.04) (0.93) (1.36) (0.39) (1.72) (0.36) (-0.15)

Cash burn rate (decimal) 0.50 0.47 0.61 1.01 0.99 1.18

(4.28) (4.03) (3.87) (4.70) (4.57) (3.45)

Dummy: PREF>0 0.24 0.23 0.28 0.32 0.30 0.40

(3.85) (3.54) (3.10) (2.81) (2.58) (2.23)

Age/100 0.42 0.37 0.43 0.86 0.45 0.40 0.49 1.33

(2.36) (2.06) (2.46) (3.38) (1.43) (1.27) (1.57) (2.59)

Fraction secondary -0.12 -0.17 -0.20 -0.20 0.02 -0.12 0.05 0.06

(-1.69) (-2.33) (-2.73) (-1.96) (0.08) (-0.42) (0.17) (0.14)

VC -0.27 -0.34 -0.27 -0.04 0.12 0.10 0.00 0.02

(-1.92) (-2.42) (-1.89) (-0.17) (0.98) (0.75) (0.01) (0.12)

RET1 (decimal) 0.15 0.15 0.14 0.18 0.51 0.50 0.50 0.50

(2.07) (2.11) (2.05) (2.36) (3.68) (3.52) (3.58) (3.08)

RET20 (decimal) 0.54 0.54 0.54 0.49 1.78 1.80 1.80 1.68

(5.43) (5.38) (5.46) (4.32) (7.36) (7.48) (7.47) (5.62)

Dummy: high IPO volume -0.08 -0.06 -0.08 -0.04 -0.54 -0.49 -0.54 -0.88

(-0.87) (-0.70) (-0.88) (-0.23) (-3.67) (-3.36) (-3.71) (-3.56)

Dummy: low IPO volume 0.46 0.46 0.49 0.63 0.67 0.72 0.69 1.24

(2.79) (2.78) (2.84) (2.87) (1.66) (1.69) (1.72) (2.47)

Time period 1975-2009 1975-2009 1975-2009 1995-2009 1975-2009 1975-2009 1975-2009 1995-2009

Log likelihood -3978 -3982 -3975 -1771

Number of subjects 3777 3777 3777 1735 3777 3777 3777 1735

Number of failures 1228 1228 1228 571

Continued on next page.

39

Panel B: Economic significance (% change in hazard in response to 1SD or 1 unit increase in variable X)

Poisson count model estimates Parametric model with frailty

(1) (2) (3) (4) (1) (2) (3) (4)

PPE/A (decimal) 3.1 7.3 3.4 7.4 2.5 10.8 2.4 -1.6

Cash burn rate (decimal) 12.0 11.2 14.7 24.3 23.6 28.4

Dummy: PREF>0 27.5 25.2 31.9 31.9 29.5 40.0

Age/100 7.3 7.3 7.3 16.5 7.3 7.3 9.2 23.9

Fraction secondary -2.5 -3.7 -4.3 -4.4 0.5 -2.6 1.0 1.3

VC -27.3 -34.1 -26.9 -3.7 11.9 9.6 0.1 2.4

RET1 (decimal) 5.1 5.1 5.0 6.2 17.6 17.1 17.3 17.2

RET20 (decimal) 11.9 12.0 12.0 10.8 39.6 40.1 39.9 37.4

Dummy: high IPO volume -7.5 -6.0 -7.6 -3.4 -53.5 -49.0 -54.4 -88.3

Dummy: low IPO volume 58.6 59.0 62.6 87.9 66.8 72.1 69.1 123.6

40

Table 7 Type of follow-on issues that occur within 24 months of the IPO

This table reports the frequency and cash burn rate of follow-on issues that occur within 24 months after the IPO. Firms that were acquired or delisted prior to a follow-on issue are deemed not to have issued any securities within 24 months after the IPO. The sample is based on 721 IPOs that occurred between 1994 and 2009 for which at least one follow-on issue occurred during the 24 month period after the IPO. The at-issue cash burn rate equals the ratio of the difference between capital expenditures and operating cash flows to the amount raised in the follow-on issue. This ratio is reported in percentage points and is winsorized at the top and bottom 1st percentiles. Freq. reports the percentage of follow-on issues in each category. Debt/bank indicates Dealscan packages that include a term loan. Debt/private and Equity/private are private debt and equity placements obtained from SDC. Debt/public and Equity/public are public debt and equity issues, also obtained from SDC. The stars indicate whether the difference between firms without and with pre-IPO preferred shares is significantly different; *** indicates significance at the 1% level of confidence, ** at the 5% and * at the 10% level.

ALL FIRMS (1,307 follow-on issues) NO PREF (597 follow-on issues) WITH PREF (710 follow-on issues)

At-issue cash burn rate (%) At-issue cash burn rate (%) At-issue cash burn rate (%)

Type of issue Mean Median Freq. (%) Mean Median Freq. (%) Mean Median Freq. (%)

Debt 68.2 2.6 36.2 68.5 1.2 41.7 67.8 3.4 31.5

Bank 64.7 -3.4 24.1 73.8 -2.8 29.0 53.6 -3.8 20.0***

Private 82.2 37.4 10.9 60.8 28.9 11.4 101.6 44.5 10.6

Public 7.5 -1.5 1.1 18.8 4.2 1.3 -5.3 -3.9 1.0

Equity 96.3 -0.9 63.8 59.6 -10.6 58.3 122.5** 6.4*** 68.5***

Private 188.5 65.3 12.2 170.4 10.0 9.7 198.8 94.3** 14.4**

Public 59.2 -6.2 46.2 29.6 -12.5 44.6 82.6* -0.7*** 47.6

Preferred 205.2 37.9 5.4 124.6 16.1 4.0 247.2 46.7* 6.5**

Total 86.1 0.5 100.0 63.3 -4.6 100.0 105.3** 5.0*** 100.0

41

Table 8 Market timing and issuance activity

The dependent variable is total IPO proceeds relative to total assets, expressed in percentage points. Filter excludes observations for which the ratio of book debt to total assets (LEVPF) exceeds 100%.The independent variables are defined in Table 1. Industry dummies, based on 3-digit SIC codes, are included but not reported. T-statistics are in parentheses; they are based on standard errors that are robust to heteroskedasticity.

Panel A: Regression estimates

Filter: Yes No

Sample: ALL NO PREF WITH PREF ALL NO PREF WITH PREF

HOT 5.11 6.16 2.75 2.98 5.11 1.01

(4.18) (4.02) (1.14) (2.62) (3.35) (0.53)

MB 3.28 3.78 1.61 2.42 3.82 1.30

(7.84) (7.24) (2.66) (8.15) (7.47) (3.56)

EBITDA/A 0.22 0.19 0.28 0.15 0.17 0.11

(6.72) (4.75) (4.87) (6.30) (4.38) (3.39)

Log(SALE) -6.65 -6.01 -8.66 -6.64 -6.33 -6.76

(-19.43) (-14.47) (-10.16) (-21.00) (-15.54) (-11.10)

PPE/A -0.10 -0.07 -0.22 -0.11 -0.11 -0.13

(-3.60) (-2.18) (-3.80) (-4.42) (-3.25) (-2.89)

RD/A 0.19 0.25 0.14 0.22 0.28 0.19

(2.80) (2.78) (1.33) (4.80) (3.29) (3.31)

Dummy: missing RD -3.01 -1.74 -7.28 -2.18 -0.85 -4.07

(-2.53) (-1.20) (-3.07) (-1.87) (-0.57) (-1.88)

LEVSL(pre-IPO) -0.07 -0.08 -0.02 0.01 -0.02 0.06

(-2.66) (-2.52) (-0.29) (0.28) (-0.53) (1.54)

AdjRSq 0.404 0.391 0.421 0.337 0.379 0.273

N 2705 1978 727 3777 2104 1673

Panel B: p-values for difference in coefficient on HOT

Filter: Yes No

Sample: ALL NO PREF WITH PREF ALL NO PREF WITH PREF

Without vs. with filter 0.01 0.04 0.38

NO PREF vs. WITH PREF 0.18 0.07

42

Table 9 Change in capital structure during the IPO year -- full sample

The dependent variable is the change in leverage relative to the year preceding the IPO: LEVSL-LEVSL(pre-IPO) or LEVPF-LEVPF(pre-IPO). Leverage(pre-IPO) is measured with LEVSL, defined as the ratio of short- and long-term debt to book assets, or with LEVPF, defined as the ratio of book debt to book assets. Filter excludes observations for which the ratio of book debt to total assets (LEVPF) exceeds 100%. The other variables are defined in Table 1. Industry dummies, based on 3-digit SIC codes, are included but not reported. T-statistics are in parentheses; they are based on standard errors that are robust to heteroskedasticity. Continued on next page.

43

Panel A: Regression estimates

Filter: Yes No No

Dep. variable: LEVPF-LEVPF(pre-IPO) LEVPF-LEVPF(pre-IPO) LEVSL-LEVSL(pre-IPO)

ALL NO PREF WITH PREF ALL NO PREF WITH PREF ALL NO PREF WITH PREF

(1) (2) (3) (4) (5) (6) (7) (8) (9)

HOT -1.58 -3.09 1.19 -0.98 -2.33 -0.77 -1.27 -1.84 -0.80

(-1.78) (-3.18) (0.64) (-1.13) (-2.25) (-0.56) (-1.96) (-2.03) (-0.82)

MB -1.67 -1.79 -1.20 -1.43 -1.91 -0.75 -1.03 -1.70 -0.50

(-8.11) (-7.22) (-3.26) (-8.99) (-7.01) (-3.78) (-9.51) (-8.77) (-3.74)

EBITDA/A -0.16 -0.15 -0.21 -0.12 -0.13 -0.10 -0.07 -0.06 -0.06

(-8.84) (-7.40) (-5.29) (-8.22) (-5.78) (-4.76) (-7.04) (-3.78) (-4.59)

Log(SALE) 4.34 4.15 5.84 5.60 4.78 5.82 1.89 1.91 1.69

(17.00) (14.81) (8.39) (20.59) (14.75) (11.41) (10.10) (7.64) (5.22)

PPE/A 0.02 -0.01 0.11 0.07 0.02 0.13 0.07 0.05 0.11

(1.01) (-0.26) (2.04) (2.78) (0.87) (3.57) (4.18) (2.29) (3.91)

RD/A -0.23 -0.16 -0.18 -0.24 -0.20 -0.14 -0.08 -0.07 -0.08

(-6.47) (-3.78) (-2.98) (-8.10) (-4.15) (-3.87) (-4.53) (-1.95) (-3.96)

Dummy: missing RD 0.71 0.23 2.27 1.67 -0.02 3.56 0.03 0.16 0.84

(0.84) (0.24) (1.07) (1.67) (-0.01) (2.08) (0.04) (0.17) (0.68)

LEVSL(pre-IPO) -0.66 -0.65 -0.69

(-45.68) (-33.25) (-29.07)

LEVPF(pre-IPO) -0.68 -0.60 -0.75 -0.97 -0.68 -0.99

(-41.57) (-30.88) (-21.41) (-137.06) (-18.00) (-129.53)

AdjRSq 0.503 0.459 0.569 0.938 0.561 0.957 0.547 0.518 0.593

N 2705 1978 727 3777 2104 1673 3777 2104 1673

44

Panel B: p-values for the difference in coefficients on HOT

Filter: Yes No No

Dep. variable: LEVPF-LEVPF(pre-IPO) LEVPF-LEVPF(pre-IPO) LEVSL-LEVSL(pre-IPO)

PREF vs. NO PREF 0.02 0.34 0.41

45

Table 10 Change in capital structure during the IPO year – 1980-2009

The dependent variable is the change in leverage relative to the year preceding the IPO: LEVSL-LEVSL(pre-IPO) or LEVPF-LEVPF(pre-IPO). Leverage(pre-IPO) is measured with LEVSL, defined as the ratio of short- and long-term debt to book assets, or with LEVPF, defined as the ratio of book debt to book assets. Filter excludes observations for which the ratio of book debt to total assets (LEVPF) exceeds 100%. The other variables are defined in Table 1. Industry dummies, based on 3-digit SIC codes, are included but not reported. T-statistics are in parentheses; they are based on standard errors that are robust to heteroskedasticity. Continued on next page.

46

Panel A: Regression estimates

Filter: Yes No No

Dep. variable: LEVPF-LEVPF(pre-IPO) LEVPF-LEVPF(pre-IPO) LEVSL-LEVSL(pre-IPO)

ALL NO

PREF WITH PREF ALL

NO PREF

WITH PREF ALL

NO PREF

WITH PREF

(1) (2) (3) (4) (5) (6) (7) (8) (9)

HOT -1.21 -2.75 1.61 -0.78 -2.03 -0.67 -1.06 -1.57 -0.71

(-1.35) (-2.83) (0.87) (-0.88) (-1.94) (-0.48) (-1.63) (-1.74) (-0.72)

MB -1.66 -1.77 -1.20 -1.42 -1.89 -0.76 -1.02 -1.68 -0.50

(-8.04) (-7.15) (-3.24) (-8.95) (-6.95) (-3.79) (-9.44) (-8.72) (-3.74)

EBITDA/A -0.16 -0.15 -0.21 -0.12 -0.13 -0.10 -0.07 -0.07 -0.06

(-9.05) (-7.55) (-5.38) (-8.33) (-5.90) (-4.83) (-7.22) (-4.00) (-4.62)

Log(SALE) 4.36 4.15 5.99 5.63 4.78 5.88 1.90 1.91 1.70

(17.03) (14.81) (8.67) (20.68) (14.74) (11.53) (10.12) (7.65) (5.23)

PPE/A 0.02 -0.01 0.12 0.07 0.02 0.14 0.07 0.05 0.11

(1.05) (-0.26) (2.15) (2.82) (0.86) (3.67) (4.15) (2.28) (3.84)

RD/A -0.23 -0.16 -0.19 -0.24 -0.21 -0.14 -0.08 -0.06 -0.08

(-6.55) (-3.80) (-3.08) (-8.12) (-4.15) (-3.89) (-4.53) (-1.90) (-3.98)

Dummy: missing RD 0.63 0.19 1.92 1.60 -0.05 3.41 0.00 0.12 0.88

(0.74) (0.20) (0.91) (1.59) (-0.04) (1.99) (0.00) (0.14) (0.70)

LEVPF(pre-IPO) -0.68 -0.60 -0.76 -0.97 -0.68 -0.99

(-41.58) (-30.93) (-21.19) (-136.98) (-17.99) (-129.16)

LEVSL(pre-IPO) -0.66 -0.65 -0.69

(-45.60) (-33.18) (-29.03)

AdjRSq 0.504 0.459 0.572 0.939 0.561 0.957 0.548 0.519 0.593

N 2692 1971 721 3763 2097 1666 3763 2097 1666

47

Panel B: p-values for the difference in coefficients on HOT

Filter: Yes No No

Dep. variable: LEVPF-LEVPF(pre-IPO) LEVPF-LEVPF(pre-IPO) LEVSL-LEVSL(pre-IPO)

NO PREF vs. WITH PREF 0.02 0.41 0.50

48

Table 11 The effect of EFWA on the cumulative change in leverage since the IPO

Book leverage (LEVSL) is defined as the ratio of the sum of short- and long-term debt to total assets. The dependent variable equals the cumulative change in book leverage (LEVSL) since the year preceding the IPO: LEVSL-LEVSL(pre-IPO). NO PREF and WITH PREF denote the subsamples of IPOs without and with pre-IPO preferred shares, respectively. EFWA equals the Baker and Wurgler (2002) measure of market timing, where equity issues are defined as the change in book equity minus the change in retained earnings and debt issues are defined as the change in total debt. The other variables are defined in Table 1. Industry dummies, based on 3-digit SIC codes, are included but not reported. T-statistics (reported in parentheses) are based on heteroskedasticity robust standard errors. The bottom rows test for the difference in coefficients on MB and EFWA between firm without and with pre-IPO preferred shares.

Sample: NO PREF WITH PREF

Dep. variable: LEVSL-LEVSL(pre-IPO) LEVSL-LEVSL(pre-IPO)

IPO+1 IPO+3 IPO+5 IPO+1 IPO+3 IPO+5

Regression estimates

EFWA(t-1) -2.46 -2.63 -1.44 -1.56

(-7.61) (-6.54) (-4.94) (-4.13)

MB(t-1) -1.51 -0.62

(-6.76) (-3.68)

EBITDA/A(t-1) -0.25 -0.18 -0.26 -0.20 -0.13 -0.19

(-7.82) (-5.60) (-6.01) (-7.13) (-4.24) (-4.80)

Log(SALE)(t-1) 1.90 1.68 2.03 1.89 2.57 2.62

(6.13) (4.59) (4.59) (5.50) (5.35) (4.88)

PPE/A(t-1) 0.22 0.18 0.18 0.28 0.25 0.19

(8.74) (6.58) (4.88) (8.90) (6.70) (3.86)

RD/A(t-1) -0.23 -0.27 -0.31 -0.15 -0.04 -0.14

(-2.70) (-3.59) (-3.24) (-2.58) (-0.78) (-2.21)

Dummy: missing RD 1.40 1.85 -0.11 1.35 6.91 1.89

(1.34) (1.50) (-0.08) (1.09) (3.92) (0.87)

LEVSL(pre-IPO) -0.69 -0.70 -0.77 -0.72 -0.74 -0.84

(-38.88) (-32.82) (-29.20) (-39.58) (-29.76) (-27.22)

AdjRSq 0.478 0.479 0.478 0.552 0.492 0.527

N 1959 1544 1223 1508 1129 844

P-values: NO PREF vs. WITH PREF

EFWA(t-1) 0.01 0.03

MB 0.00

49

Appendix A1 Sample construction

The sample consists of initial public offerings (IPOs) that occur between 1975 and 2009. This list is obtained from Jay Ritter. We end the sample in 2009 in order to track post-IPO issuance for two years following the IPO. Our sample is restricted to firms for which the offer price exceeds $5.00 per share. We exclude utility firms (SIC 4900-4999) and financial firms (SIC 6000 -6999) as well as American Depositary Receipts, closed-end funds, unit IPOs, spinoffs, limited partnerships and REITs. This sample of firms is matched to stock price data from CRSP and accounting data from COMPUSTAT with the restriction that all of the firms have accounting data on book assets and liabilities in both the pre-IPO and IPO year. These steps yield a set of 3,777 IPOs after imposing a number of filters described below that are meant to ensure the quality of the accounting data, especially in the pre-IPO year.

We exclude observations that have less that $10 million (in 2011 dollars) in book assets in the IPO year. Book debt equals total liabilities (COMPUSTAT annual item LT) and preferred stock (Item PSTKL, replaced by the redemption value of preferred stock (PSTKRV) when missing) minus deferred taxes (TXDITC) and convertible debt (DCVT). Book equity is total assets (A) minus book debt. Market-to-book ratio, MB, is defined as book debt plus market equity (common shares outstanding (CSHO) times share price (PRCC_F) divided by total assets. We drop observations that are greater than the 99th percentile of this ratio, starting in the IPO year. Leverage (LEVPF) equals the ratio of book debt to total assets in percentage points. Leverage (LEVSL) equals the sum of short- and long-term debt to book assets in percentage points. Observations with leverage (LEVSL) over 100% are excluded from the sample

Profitability is measured by EBITDA where EBITDA is earnings before interest, taxes, and depreciation. Log(SALE) is the logarithm of net sales (item SALE) in millions of 2011 dollars. Asset tangibility, denoted as PPE, is defined as net plant, property, and equipment. RD is research and development expense, replaced with zero when missing. A dummy variable RDD takes the value of one when item XRD is missing. We use total assets to deflate R&D expenses in order to ensure comparability with other studies. In some tables, SALE is used to deflate R&D instead of book assets in order to minimize the incidence of outliers as R&D expenses are intangible and do not get recorded as an asset on the balance sheet.

Total investment, INV, is measured as the sum of capital expenditures (item CAPX) and research and development expense (set to zero when missing).19 Debt issues, DI, equal the change in book debt divided by total assets at the end of the current year. Observations with INV/A greater than the 99th percentile are dropped from the sample. We drop firm-year observations for which the change in book debt over total assets or the change in book equity net of retained earnings over total assets are less than the 1st percentile or exceed the 99th percentiles, starting in the IPO year. We also drop firm-year observations for which EBITDA/A, CAPX/A, or the change in retained earnings over book assets is greater than 100% in absolute value.

19 Missing values of R&D are set to zero in order not to bias the sample in favor of firms whose primary investments are in the form of research and development expenses.

50

Appendix A2 Examples of IPO prospectuses with convertible preferred shares

First Virtual Holdings The following table sets forth the (i) capitalization of the Company as of September 30, 1996, (ii) pro forma capitalization as of such date after giving effect to the assumed exercise of warrants outstanding at September 30, 1996 to purchase 1,328,006 shares of Common Stock at an exercise price of $0.01 per share, conversion of all outstanding shares of Preferred Stock into 2,333,317 shares of Common Stock and an amendment of the Company's Certificate of Incorporation on or prior to the closing of the offering and (iii) as adjusted capitalization to give effect to the application of the estimated net proceeds from the sale by the Company of the 2,000,000 shares of Common Stock offered by the Company hereby (after deduction of the underwriting discounts and commissions and estimated expenses of the offering). Amazon.com The following table sets forth at March 31, 1997 the (i) actual capitalization of the Company, (ii) the pro forma capitalization of the Company, giving effect to the conversion of the outstanding Preferred Stock into Common Stock upon the closing of this offering, and (iii) the pro forma capitalization as adjusted to reflect the receipt of the estimated net proceeds from the sale of the 3,000,000 shares of Common Stock offered hereby at the initial public offering price of $18.00 per share and after deducting the underwriting discount and offering expenses payable by the Company. This table should be read in conjunction with the Company's financial statements and the notes thereto included elsewhere in this Prospectus.

NetFlix The following table sets forth our cash, cash equivalents and capitalization as of March 31, 2002:

- on an actual basis;

- on a pro forma basis assuming the conversion of all shares of our preferred stock into shares of common stock automatically upon completion of this offering, including shares to be issued to certain studios immediately prior to this offering and the filing of our amended and restated certificate of incorporation upon completion of this offering; and

- on a pro forma as adjusted basis to reflect the sale of 5,500,000 shares of our common stock at the initial public offering price of $15.00 per share, less the underwriting discounts and commissions and estimated offering expenses, and repayment of $13.9 million of our subordinated promissory notes, which will result in a $10.8 million charge to expense in the period of the offering.

This information should be read in conjunction with Management’s Discussion and Analysis of Financial Condition and Results of Operations and our financial statements and notes to those statements appearing elsewhere in this prospectus.

51

March 31, 2002

Actual Pro Forma Pro Forma As

Adjusted

Cash and cash equivalents $15,671 $15,671 $76,471

Subordinated promissory notes, net of unamortized discount of $10.8 million $3,158 $3,158 $0

Capital lease obligations, net of current portion $959 $959 $959

Total long-term debt $4,117 $4,117 $959

Redeemable convertible preferred stock and warrants:

Series B, C, D, E and E-1 Convertible Preferred Stock; no shares issued or outstanding (pro forma and pro forma as adjusted) $101,479 $0 $0 Convertible preferred stock warrants $351 $0 $0

Total redeemable convertible preferred stock and warrants $101,830 $0 $0 Stockholders' equity (deficit):

Preferred stock, $0.0001 par value; no shares issued or outstanding (pro forma and pro forma as adjusted) $0 $0 $0

Series A convertible preferred stock, 0.001 par value; no shares issued or outstanding (pro forma and pro forma as adjusted) $4 $0 $0

Series F Convertible Preferred Stock, $0.001 par value; no shares issued or outstanding (pro forma and pro forma as adjusted) $3 $0 $0 Common stock, $0.001 par value $2 $15 $21 Additional paid-in capital $74,752 $176,576 $251,295 Deferred stock-based compensation -$23,859 -$23,859 -$23,859 Accumulated deficit -$141,774 -$141,774 -$152,541

Total stockholders' equity (deficit) -$90,872 $10,958 $74,916

Total capitalization $15,075 $15,075

Tropical Sportswear

The Company intends to use the net proceeds of the Offering as follows: (a)

52

approximately $3.9 million to redeem all of the Company's outstanding preferred stock; and (b) the remaining approximately $13.6 million to repay amounts outstanding under the $40 million revolving credit line (the "Facility") constituting part of the Credit Agreement.

Einstein Bros. Bagels

The following summary is qualified in its entirety by reference to, and should be read in conjunction with, the more detailed information and financial statements, including the notes thereto, appearing elsewhere in this Prospectus. Unless otherwise indicated, the information in this Prospectus (i) gives effect to a 225-for-1 stock split declared by the board of directors of the Company on July 8, 1996, (ii) gives effect to the conversion of the Company's $120.0 million convertible loan facility from Boston Chicken, Inc. ("Boston Chicken") into 15,307,421 shares of Common Stock on June 17, 1996, (iii) assumes the conversion of 6,250 shares of preferred stock, par value $.01 per share, of the Company into 459,559 shares of Common Stock and (iv) assumes no exercise of the over-allotment option granted by the Company to the Underwriters. Extensity

The table below provides the pro forma effects of the initial public offering

December 31, 1999

Actual Pro Forma Pro Forma As

Adjusted

Consolidated balance sheet data:

Cash, cash equivalents and short-term investments $24,285 $24,285 $96,985 Working capital $13,227 $13,227 $85,927 Total assets $31,661 $31,661 $104,361

Notes payable and capital lease obligations, noncurrent portion $1,285 $1,285 $1,285

Mandatorily redeemable convertible preferred stock $49,648 $0 $0 Total stockholders' equity (deficit) -$35,061 $14,587 $87,287

Rosetta Stone

The table provides financial on a pro forma basis after giving effect to (i) the conversion of all outstanding shares of preferred stock into 14,507,714 shares of our common stock, which will occur automatically immediately prior to the closing of this offering, (ii) the issuance of 154,672 shares of restricted common stock we made to some of our employees, and (iii) the issuance of 591,491 shares of our common stock we made to 10 of our key employees, including our named

53

executive officers, which number of shares is net of the shares withheld by us to satisfy the tax withholding obligations relating to the "net issuance" of the stock grants

Neutral Tandem Inc

The pro forma as adjusted balance sheet data as of June 30, 2007 give effect to this offering of common stock at a price of $14.00 per share, the mandatory conversion of all of our preferred stock into an aggregate of 18,000,230 shares of common stock upon the closing of this offering, the reclassification of warrants from liabilities to shareholders’ equity, and the application of the net proceeds therefrom as described under “Use of Proceeds”.

54

Table A1 Comparison of samples with (WITH PREF) and without pre-IPO preferred shares (NO PREF)

This table reports summary statistics of firm characteristics in the year preceding the IPO, except for RET1, PROCEEDS, VC, TECH, and Age which are measured at the time of the IPO. Returns and financial ratios except for MB are in percentage points. NO PREF and WITH PREF denote subsamples of firms without and with pre-IPO preferred shares, respectively. Book debt is the sum of total liabilities and preferred shares minus convertible debt and deferred taxes. Book leverage LEVPF is the ratio of book debt to total assets. LEV is the ratio of book debt less preferred shares to book assets. LEVSL is the ratio of short term and long-term debt to total assets. Market-to-book (MB) is defined as book debt plus the market value of equity divided by total assets. Profitability, EBITDA, is defined as earnings before interest, taxes and depreciation. CAPX denotes capital expenditures, RD is research and development expense. INV is the sum of CAPX and RD, where missing values of RD are set to zero. PROCEEDS equals the IPO proceeds in millions of 2011 dollars and includes primary and secondary shares but assumes that over-allotment options are not exercised. RET1 is the first-day return on the IPO day. LSALE is the log of sales in millions of 2011 dollars. VC is a dummy for whether the firm had venture-capital financing prior to the IPO. TECH is a dummy for whether the firm is in the technology industry. Age is the founding age of the firm at the time of the IPO. MB (SIC3 pre-IPO) equals the mean market-to-book ratio in the issuing firm’s industry in the year prior to the IPO. PPE is property, plant and equipment. The dollar burn rate (DBR) is the difference between capital expenditures and operating cash flows in the year prior to the IPO in millions of 2011 dollars. Cash burn rate is ratio of the dollar burn rate to total proceeds. DBR/Cash is the ratio of the dollar burn rate to the firm’s cash holdings in the year prior to the IPO. The column labeled TSTAT reports t-statistics for the difference in means across firms with no pre-IPO preferred shares and firms with pre-IPO preferred shares.

All firms (N=3,777) NO PREF (N=2,104) WITH PREF (N=1,673) T-STAT

MEAN MEDIAN MEAN MEDIAN MEAN MEDIAN Col. (3) vs. Col. (5)

(1) (2) (3) (4) (5) (6) (7)

LEVPF 97.1 81.2 67.7 68.5 134.1 108.4 -34.6

LEV 64.2 64.8 67.7 68.5 59.9 58.3 8.6

LEVSL 32.2 28.7 35.4 34.5 28.2 20.9 8.9

EBITDA/A 11.1 16.0 19.7 20.0 0.3 10.0 23.4

PPE/A 26.0 18.8 28.7 22.1 22.7 16.0 8.5

INV/A 19.5 13.8 15.9 10.7 24.1 20.2 -14.1

CAPX/A 10.1 6.3 10.8 6.7 9.2 6.0 4.4

RD/SALE 27.0 0.0 8.7 0.0 49.9 7.3 -11.4

PROCEEDS 83.6 45.5 79.4 36.0 89.0 55.0 -1.6

RET1 17.0 7.4 12.6 6.0 22.5 9.5 -8.8

55

Log(SALE) 3.9 3.9 4.1 4.1 3.7 3.7 7.8

VC 0.37 0.0 0.17 0.0 0.62 1.0 -31.9

GC 0.03 0.0 0.02 0.0 0.05 0.0 -6.2

TECH 0.40 0.0 0.30 0.0 0.53 1.0 -14.6

AGE 15.5 9.0 17.5 11.0 12.9 7.0 7.7

MB(SIC3 pre-IPO) 2.4 2.2 2.2 2.0 2.7 2.5 -15.7

Dollar burn rate (DBR) 1.1 -0.6 -1.5 -1.3 4.3 0.8 -2.7

Cash burn rate 3.7 -1.9 -0.4 -4.9 8.8 1.9 -3.2

DBR / Cash -15.6 -16.0 -46.4 -40.7 16.4 15.1 -10.1

Pct. secondary shares 16.5 5.9 18.7 10.8 13.6 0.0 7.3

56

Table A2 Mean values by whether a firm is VC-backed and if it has pre-IPO preferred shares

This table reports mean values for the sample of IPO firms. Firms are split into four groups according to whether they have VC financing and pre-IPO preferred share financing. Panel A reports summary statistics for firms without VC financing. Panel B reports summary statistics for firms with VC financing. TSTAT reports the difference in means across firms with and without pre-IPO preferred shares (PREF). Variable definitions are located in Table 1.

Panel A: No VC financing prior to the IPO

NO PREF WITH PREF TOTAL

N 1747 641 2388

Pct 73.2 26.8 100.0

Variable NO PREF WITH PREF TSTAT

LEVPF 69.32 103.38 -21.33

LEV 69.32 70.61 -1.12

LEVSL 36.92 41.17 -3.80

EBITDA/A 20.69 11.57 10.29

PPE/A 29.80 28.35 1.35

INV/A 14.52 13.35 1.67

CAPX/A 10.81 8.69 3.82

RD/A 3.71 4.67 -2.12

PROCEEDS 85.12 123.00 -3.61

RET1 12.65 12.53 0.10

Log(SALE) 4.26 4.72 -6.00

TECH 0.25 0.27 -1.29

AGE 18.96 21.15 -2.22

MB(SIC3 pre-IPO) 2.11 2.24 -3.09

Dollar burn rate (DBR) -2.40 -1.68 -0.20

Cash burn rate -0.82 0.68 -0.87

DBR / Cash -52.55 -18.64 -3.54

Continued on next page.

57

Panel B: with VC financing prior to the IPO

NO PREF WITH PREF TOTAL

N 357 1032 1389

Pct 25.7 74.3 100.0

Variable NO PREF WITH PREF TSTAT

LEVPF 59.77 153.17 -18.78

LEV 59.77 53.22 3.49

LEVSL 27.91 20.14 5.65

EBITDA/A 15.05 -6.76 11.12

PPE/A 23.05 19.24 3.69

INV/A 22.66 30.72 -6.95

CAPX/A 10.86 9.52 2.21

RD/A 11.80 21.21 -8.69

PROCEEDS 51.16 67.96 -4.22

RET1 12.48 28.67 -5.88

Log(SALE) 3.53 3.07 4.92

TECH 0.58 0.69 -3.84

AGE 10.34 7.79 5.49

MB(SIC3 pre-IPO) 2.56 3.00 -6.49

Dollar burn rate (DBR) 3.12 7.99 -2.71

Cash burn rate 1.90 13.78 -1.45

DBR / Cash -18.14 35.75 -5.47

58

Table A3 Logistic regression estimates relating firm characteristics to preferred share financing

The dependent variable is a dummy variable for whether a firm has preferred shares. In the case of IPO firms, the incidence of preferred shares is measured in the year prior to the IPO. In the case of public firms, the incidence of preferred shares is measured in the third year the firm appears in COMPUSTAT with non-missing market values of equity. The third column reports p-values for the difference in coefficients across IPO and public firms. Heteroskedasticity robust t-statistics are reported in parentheses. Independent variables are defined in Table 1.

IPO firms Public firms IPO vs. Public

Coeff./(t-stat) Coeff./(t-stat) P-value

(1) (2) (3)

LEVSL -0.01 0.02 0.00

(-2.97) (13.20)

EBITDA/A -0.03 -0.02 0.00

(-14.70) (-12.59)

PPE/A -0.003 0.004 0.01

(-1.21) (3.36)

CAPX/A 0.000 -0.02 0.00

(0.10) (-5.18)

RD/A 0.03 -0.02 0.00

(7.85) (-3.26)

Dummy: missing RD -0.16 0.18 0.00

(-1.80) (3.15)

Log(SALE) 0.18 0.18 0.95

(6.55) (11.90)

MB 0.04 -0.02 0.07

(1.75) (-0.86)

Pseudo Rsq. 0.146 0.054

N 3777 13784

59

Table A4 Loan characteristics around the IPO

This table reports OLS regressions of the determinants of the number of covenants and loan maturity for loan packages that contain term loans. Loan information is obtained from Dealscan. The sample consists of loan packages initiated 12 months prior to 24 months after the IPO from 1994 to 2009. N.Covenants is the number of covenants. Maturity(months) is the maturity of the longest facility (usually a term loan) in the loan package. Log(amount) is the logarithm of the principal amount at the package level. The other independent variables are defined in Table 1. T-statistics are in parentheses; they are based on standard errors that are clustered at the firm level and robust to heteroskedasticity.

N. Covenants Maturity(months)

Dummy: PREF>0 0.34 -3.75

(2.74) (-1.95)

R&D/SALE(t-1) -0.01 0.02

(-3.34) (0.56)

Dummy: missing R&D 0.23 -1.70

(1.88) (-0.85)

EBITDA/A(t-1) 0.00 0.16

(0.92) (2.19)

PPE/A(t-1) 0.00 (-0.01)

(-0.83) (-0.24)

LEV(t-1) 0.00 0.06

(0.70) (1.52)

Log(SALE)(t-1) -0.18 -2.99

(-2.44) (-3.03)

Log(amount) 0.26 8.08

(4.13) (9.26)

Constant 2.30 42.87

(8.33) (8.08)

N 443 633

ARsq 0.144 0.238