Entering the public bond market during the financial crisis: Underinvestment and asymmetric information costs

This paper investigates the impact of underinvestment and asymmetric information cost on the determinants and timing of a firm’s decision to issue its first-time public bond. Using a sample of non-convertible public bonds made by UK public and private companies between 2007 and 2011, the results show that the choice of capital source is strongly affected by the agency conflict. In particular, the agency cost in the form of underinvestment problems delays a firm’s entry to the public bond market. However, the results show that, unlike previous studies, private companies are more likely to enter the public bond market before undertaking their equity IPOs, supporting the pecking order theory under asymmetric information argument. The results also suggest that firms with less information asymmetry and those that establish a track record are more likely to undertake bond IPOs during the crisis, but private companies enter the public bond market earlier than the equity market. These results hold even after controlling for bank relationships and demands for external funds.