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Financing under Extreme Uncertainty: Evidence from PIPEs

Prior work on capital raising consistently finds that firms raising external capital experience good performance prior to fund raising events. By contrast, financially constrained firms – those faced with operating problems or informational asymmetries – frequently encounter difficulty raising capital through traditional financing instruments. This study examines the use of private investments in public equities (PIPEs), an increasingly common form of financing that can be structured to provide investors with varying degrees of asymmetric exposure to an issuer’s equity. The PIPE market has evolved to fill in a gap left by traditional forms of financing. In contrast to more traditional forms of capital, nearly 80 percent of companies issuing PIPEs have negative operating income and more than 60 percent have falling stock prices in the two years prior to issue. Although PIPE issuers realize negative returns following a PIPE issue on average, there is a large amount of cross sectional variation in these returns. Consistent with investors’ ability to rationally choose contracting terms, this variation is associated with the degree of the investors’ asymmetric exposure to the issuer’s equity. Financing under Extreme Uncertainty: Evidence from PIPEs