PIPEs: a Theory of Private vs. Public Placements in Public Firms

This paper studies a public \u85rms investment decision and whether to raise the equity capital needed using the public market (SEO) or a private channel (PIPE, Private Investment in Public Equity). Issuing the security privately allows the \u85rm to enjoy greater \u85nancial exibility since funds can be raised faster due to less legal requirements and marketing e¤orts than a public o¤ering (i.e. the shares do not need to be registered before they are sold). This greater \u85nancial exibility also alleviates information asymmetries. However because they are initially illiquid, they carry a cost. The trade-o ¤ is therefore between liquidity and the value of \u85nancial exibility. The model throws light on what \u85rm characteristics determine the use of one market or the other, and on the optimal timing of investment decisions to better use \u85nancial exibility. We then solve for the optimal private debt contract and show that, whithin private placements, the pecking order theory need not hold. The model explains empirical regularities, for instance, why do SEOs have negative abnormal returns around its announcement whereas abnormal returns for PIPEs are positive