Impact of Legal Institutions on IPO Survival: A Global Perspective

Internationally, investors, practitioners, regulators and policy-makers seek to understand whether, when and why recently listed stocks are delisted. Yet, little is known to date about how delisting varies across countries or regions or about the impact of the legal system that drives the delisting on the incidence of delistings.

Our study examines the impact of the legal system on delistings of initial public offerings (IPOs) across 32 countries around the world. Following the law and finance literature (LaPorta et al, 1997, 1998, 2006; Berkowitz et al, 2003), we focus on the quality of the legal system as measured by the efficiency of the judicial system, rule of law, absence of corruption, risk of expropriation and of contract repudiation, and the extent of shareholder rights. The law and finance literature (Shleifer and Wolfenzon, 2002), shows that a country’s legal system affects whether companies go public or not, but says nothing about delisting. In our study, we find that legal systems do determine whether companies stay public, and hence whether their stocks remain listed. Legal systems that protect minority shareholders and investors increase the effectiveness of contracts, reduce the (informational and agency) costs of external financing and improve company performance (LaPorta, 2006; Berkowitz et al, 2003).

Previous studies on a country's legal condition find that cross-country differences in the legal framework affect corporate governance (LaPorta et al, 1998; Mitton, 2002) and corporate valuation (LaPorta et al, 2002). However, these studies do not investigate whether the survival profiles of IPOs varies with the quality of legal systems across countries. To date, not much is known as to whether the quality of the legal system has a positive or negative effect on IPO survival. Single country (or single geographic region) studies do not shed light on the impact of the legal system on IPO survival due to minimum variation of the legal conditions within a country. Our study contributes to the literature by investigating this impact using a sample of 7,627 IPOs issued during 2000-08 across 32 countries. The results of our analysis show that better legal systems help IPOs remain listed longer. We show that the quality of the legal system improves IPO survival directly by reducing the contracting costs faced by listed firms, and indirectly by increasing the positive impact on IPO survival due to IPO certification by venture-capital backers, underwriters and auditors.

Our results are of interest to stock markets, regulators and policy-makers worldwide, who are interested in promoting stock-market listings and improving the availability of external equity to companies. Our results are also of interest to investors seeking to identify stocks suitable for long-term investments, particularly to investors planning to commit capital outside their home market.

Sussane Espenlaub is a Senior Lecturer in Accounting and Finance at the University of Manchester; Abhinav Goyal is Senior Lecturer of Corporate Finance at the Management School, University of Liverpool; and Abdul Mohamed is a Senior Lecturer in Finance at Cranfield University School of Management.