2003.13

Banking Relationships and Accessto Equity Capital Markets:
Evidence from Japan's Main Bank System
Kenji Kutsuna
Janet Kiholm Smith
Richard L. Smith

Banking Relationships and Access to Equity Capital Markets:
Evidence from Japan’s Main Bank System
Kenji Kutsuna
Graduate School of Business Administration
Kobe University
Rokkodai 2-1, Nada, Kobe, 657-8501, Japan
Kutsuna@rose.rokkodai.kobe-u.ac.jp

Janet Kiholm Smith
Von Tobel Professor of Economics
Department of Economics
Claremont McKenna College
Claremont, CA 91711
janet.smith@claremontmckenna.edu

Richard L. Smith
Peter F. Drucker School of Management
Claremont Graduate University
Claremont, CA 91711
richard.smith@cgu.edu
May 2003

Abstract
We study the role of banking relationships in IPO underwriting using a sample of 484 Japanese IPOs.
Among other issues, we consider whether bank relationships lead to increased access to public equity
markets, especially for smaller, lesser-known firms. When a firm in Japan goes public, it can engage aninvestment bank that is related through a common main bank, or can select an alternative investment bank.
The main bank relationship can be an efficient way for the investment bank to acquire information
generated by the main bank, but may give rise to conflicts of interest. We use data from two different
investment banking regimes in Japan (a hybrid auction-method regime and a book-building regime) andfind that main bank relationships give small issuers increased access to equity capital markets, but thatissuers of large IPOs switch to non-related investment banks that are capable of managing large offerings.
While we find evidence that investment banks seek to exploit bargaining power with related issuers, we
also find that issuers respond to expected high issue cost by switching to non-related investment banks.
The net result is that total issue costs through related and non-related investment banks are similar. With
respect to aftermarket performance and use of offer proceeds, we find no evidence of conflict of interest or
self-dealing for either the main bank or the investment bank.
Comments welcome.

Key Words: Main Bank, Banking Relationships, Capital Market Access, IPOs,
Underwriting, Japanese Economy
JEL codes: G21, G24, L22, L51

1

Banking Relationships and Access to Equity Capital Markets:
Evidence from Japan’s Main Bank System
I.

Introduction

For years, policy makers in many countries have grappled with whether integration ofcommercial banking and investment banking services is likely to benefit or harm corporateclients and investors. If commercial banks are integrated into investment banking the banks
might engage in “self-dealing” by underwriting public offerings of client companies to effectwealth transfers from their clients and/or investors to themselves. Further, integrated banks
may gain bargaining power over their commercial clients who seek investment-banking
services. On the other hand, by using the commercial bank’s experience with its credit clients,
integration could reduce information costs and result in increased access to public capital
markets for corporate clients and possibly lower issue costs.
In the US, early controversy concerning participation of commercial banks incorporate securities underwriting resulted in the Glass-Steagall Act (The Banking Act of1933). The Act, which effectively prohibited commingling of investment and commercial
banking functions, was enacted in the context of allegations of conflicts of interest and abuseby commercial banks that were integrated into investment banking. Sixty-six years later,
Congress reversed this policy and repealed the Act’s restrictions on affiliations between
securities firms and commercial banks. The reversal signaled that US policy makers had
accepted the view that potential benefits of improved access outweigh the potential conflictsof interest when banks provide both lending and underwriting services.1 One argument infavor of repeal was to increase public capital market access for small, young, and/or relatively
1

The Gramm-Leach-Bliley Act (The Financial Services Modernization Act of 1999) repeals provisions
contained in Sections 20 and 32 of the Glass-Steagall Act.

2

unknown firms; such firms could rely on their commercial banking relationships, and theinformation generated from them, to gain better access to public credit and equity markets.
Extant empirical literature on banking relationships and integration of commercial andinvestment banking functions generally does not support the conflict of interest hypothesis.2
However, as described below, the studies usually focus on debt and preferred or seasoned
equity underwriting. A stronger test of the conflict of interest hypothesis would examine, as
we do, those securities for which informational asymmetries are likely to be very large, suchas initial public offerings (IPOs). Furthermore, there is little modern evidence on how
relationships between commercial and investment banks may facilitate market access forfirms that desire to go public.
In this paper we examine the Japanese IPO underwriting market.

Our study

contributes to the literature in three ways. First, we examine the pricing and performance of
information-intensive securities and do so in a period of extreme financial system stress forJapan (1995-1999); both of these conditions increase incentives for bankers to behave
opportunistically. Thus, we “stack the deck” in favor of finding evidence of conflicts, thereby
addressing a gap in empirical research that, to date, has focused on debt and preferred orseasoned equity issues. An additional advantage of the time period is that our study spans
two different underwriting regimes—a hybrid auction regime (variants of which are in use in
several countries) and a book-building regime (similar to the US method). 3 This featureallows us to contrast the importance of main bank relationships across two very different
underwriting processes.

2See, for example, Ang and Richardson (l994), Kroszer and Rajan (l994, l997) Puri (1994, l996). We review theliterature below in Section II.
3
See Sherman (2002) for documentation on IPO methods used internationally.

3

Second, we consider alternative organizational approaches for dealing with the twobasic economic issues in underwriting: generating information about the issuing firm andmitigating investor concerns about self-dealing and conflict of interest. In Japan, the keiretzu
structure allows main banks to hold equity interests in its commercial banking clients,
including investment banks.4 Issuing firms can choose whether to engage an investment bankthat is related to the issuer’s main bank.

Hence, we model the issuing firm’s choice toengage a related investment bank to underwrite its IPO. Other things constant, those firmsthat are the most difficult to value because of informational asymmetry can be expected to
select related investment banks.
Third, we look at a spectrum of underwriting outcomes to evaluate whether closebanking relationships lead to conflicts of interest. We examine the impact of relationships on
the initial pricing of the IPO, issuing firm access to public equity markets, and aftermarket
performance of issues.
Conflicts of interest can be manifested in two ways when an IPO issuer and an`underwriter are related through a common main bank. First, by underwriting a questionableissue and misleading investors about its value, a related underwriter can attempt to use its
reputation to effect a wealth transfer from investors to the issuer and/or the main bank. 5
Second, if the main bank’s lending activities give the related investment bank bargaining
power, the underwriter can attempt to exploit its information advantage by charging higher
fees or underpricing more than would be possible in a market where no underwriter has an
information advantage. In this case, the wealth transfer is from the issuer to the underwriter
4

Section 65 of Japan’s Securities and Exchange Law (l948) describes the requirement that banking firms be
separate from securities firms. The l965 amendment to the Law prohibits the establishment of securities firms
without the approval of the Ministry of Finance. After April 1933, the Financial System Reform Act allows forbanks to establish securities subsidiaries, but still prohibits banks from issuing or trading securities.

4and IPO investors (which may indirectly benefit the underwriter). 6 Hence, the conflict ofinterest hypothesis is that when an issuer is related to an investment bank through a common
main bank (a keiretzu relationship), the investment bank may seek to deceive investors into
overvaluing the issue and/or may cause the firms to issue for the benefit of the investmentbank or main bank.
Alternatively, when an issuer is related to an investment bank through a common mainbank, the relationship may lower the costs of obtaining information or improve information
quality. The information hypothesis suggests that relationships between commercial banks
and investment banks benefit issuers and increase access to equity capital markets.

To testthese alternative hypotheses, we assume that issuing firms seek to minimize total issue cost by
their selection of the investment bank.

When firms in Japan go public, they can engage arelated investment bank, or can select an alternative investment bank. Correspondingly, by
examining aftermarket performance, we test whether investment banks’ due diligence andpre-marketing activities lead investors to make unbiased assessments of issuers’ aftermarket
values.
Our findings demonstrate that small firms that undertake small IPOs tend to engage
their related investment banks.

Large issuers are more likely to select a non-related

investment bank, particularly when the related investment bank is small and/or the offering islarge.

Controlling for other factors, total issue cost (including underwriter fees andunderpricing), does not depend significantly on whether the firm uses a related investment

5

For discussion of the types of conflicts of interest that may arise in this setting, see Benston (l990)
Total issue cost includes underpricing, which benefits investors directly. However, underwriters may expect tobe compensated in indirect ways for allocating underpriced shares to favored investors. See Loughran and Ritter(2003) who discuss allocations of “hot” IPOs to the personal brokerage accounts of issuing firm executives.
6

5

bank. We find no evidence that aftermarket performance is significantly different when theissuer is related to the underwriter through a common main bank.
The evidence suggests that integration of commercial banking and investment banking
increases access to equity capital markets for small, less well-known firms. This is a usefulfinding, as one of the objectives of the repeal of Glass-Steagall was to benefit such firms byincreasing their abilities to rely on banking relationships to gain better access to the capital
markets. While we also find evidence of an inherent conflict of interest when the parties are
related, issuers in Japan are able to respond to the conflict by selecting non-related investmentbanks. The result is that issue costs are no higher for issuers who elect to use a related
investment bank. In summary, we find no significant evidence that issuers or capital market
investors in Japan are harmed by relationships between main banks and investment banks.
II.

Banking Relationships and Credit Markets

The effects of banking relationships on access to capital and borrowing cost have been
subject to extensive theoretical and empirical study. One stream of literature concerns theeffects of commercial banking relationships on access to credit. A second stream concerns
the conflicts of interest that arise when commercial banks integrate into investment banking.
A third concerns how organizational choices can mitigate investor concerns with conflicts.
A.

Banking Relationships and Access to Credit
Stiglitz and Weiss (1981) observe that market frictions related to information

asymmetry and agency costs can impede the flow of capital to attractive investments. Lelandand Pyle (1977), Campbell and Kracaw (1980), Diamond (1984, 1991), and Fama (1985) all
suggest that firms with close ties to financial institutions should have access to lower costfunds.

6

Consistent with these theoretical studies, Petersen and Rajan (1994) hypothesize that
institutional creditors can partially overcome market frictions by producing information about
firms and using the information in their credit decisions. They note that competitiveness ofthe credit markets and transferability of information about a borrower’s quality determine
whether the savings of information costs are passed on to borrowers or are extracted as rents
by lenders. They find that close ties with creditors have a small effect on the cost of credit,
but that availability of credit financing increases for firms with ties to creditors. Hoshi,
Kashyap, and Scharfstein (1991) study credit relationships in Japan and find that firms withclose ties to commercial banks are less likely to be liquidity constrained.7
There are several reasons for expecting that banking relationships may facilitate accessto capital markets. Recognizing banks that related to issuers have an information advantage,
James (1987) provides empirical evidence of a certification role of banks and James and Weir
(1990) demonstrate that the existence of a banking relationship results in less IPO
underpricing. Diamond (1987) observes that, in conjunction with providing credit, banks also
perform a monitoring function and that the full cost of bank credit must compensate the lender
for monitoring costs. Diamond argues that monitoring costs can function as a bonding
investment.

Firms can use bank-monitored debt to build reputation.

Those with good

reputations can switch to arms-length sources of credit and save monitoring costs.
B.

Commercial Bank Integration into Investment Banking
Rajan (1992) models the choice between informed bank debt and arms-length public

debt as an aspect of the firm’s effort to offset the benefits of the related lender’s ongoing
monitoring against the lender’s bargaining power. If banking relationships yield information
7

Berger and Udell (l995) study bank relationships and their importance to small firms. They find evidence thatsuch relationships are a likely mechanism for solving asymmetric information problems and that they provide

7advantages, then integration of commercial banking and investment banking in a single
institution may enhance a lender’s bargaining power. In addition, a lender that is integrated
into investment banking is faced with a conflict of interest, in that the proceeds of capital
market financing may be used to extinguish bank debt.
Puri (1999), in a model that is focused on public credit markets, contrasts thecertification capabilities of commercial banks that are integrated into investment banking to
the certification capabilities of investment banks. On the basis of access to information that isderived through pre-existing lending relationships, she concludes that commercial banks areable to certify higher values than are investment banks. She also concludes that a commercial
bank’s ability to certify is reduced when issue proceeds are used to extinguish debt that is
owed to the bank and that equity ownership in the issuer also reduces ability to certify. Puri
recognizes the tension between the commercial bank’s greater ability to certify and its conflictof interest.
Several empirical studies have tested the conflict of interest hypothesis by examining
the US experience in the pre-Glass-Steagall era when commercial banks could legally makeloans to firms and also underwrite their securities. An implication of the hypothesis is that
default rates could be higher for commercial-bank-underwritten debt than for investmentbank-underwritten debt. Ang and Richardson (1994), Kroszer and Rajan (1994) and Puri
(1994) examine the ex post default performance of debt securities underwritten bycommercial banks and by investment banks and Puri (l996) examines the pricing of the debt
issues, arguing that looking only at ex post performance is incomplete because pricing shouldreflect expected default rates on the security. Collectively, the results suggest that concerns

valuable information about firm quality. For a survey of the literature on relationship banking, see Boot (l999).

8

about conflicts of interest were misplaced. Contrary to the conflict of interest hypothesis, allthree studies find evidence that commercial-bank-underwritten issues have lower default rates.
As a further test of the conflict of interest hypothesis, Puri (l996) compares the pricing
of commercial-bank-underwritten debt with the pricing of investment-bank-underwritten debt
and preferred stock. Consistent with Puri (1999), she finds that banks are able to certify
higher values, particularly for securities where information costs are high. Her evidence isconsistent with the hypothesis that integrated investment banks have an information
advantage that benefits issuers through higher net proceeds.
C. Choice of Organizational Structure
Given the tension between information cost savings and conflict of interest, thestructure of banking organizations can be expected to reflect efforts to realize information costsavings while mitigating conflicts of interest. Kroszner and Rajan (l997) study pre-GlassSteagall data and estimate how the degree of integration affects issue quality and pricing.
They find that the market imposed a higher risk premium on issues underwritten by
investment banking internal departments (compared to separately incorporated affiliates) andthat internal departments responded to the higher premium by focusing on higher quality
issues. They conclude that market pressures induce commercial banks to adopt investmentbanking structures that address concerns related to conflict of interest.
There are a few studies that examine US experience in the years since Glass-Steagall
was repealed. While data are limited, the studies indicate that commercial banks seeking tointegrate underwriting activities have responded to potential concerns about conflict ofinterest though their choices of organizational form. Using reasoning similar to Kroszner andRajan, Narayanan, Rangan and Rangan (2001) argue that commercial banks can use

9underwriting syndicates to militate against opportunism.

They find that syndicatearrangements are rewarded with better prices for seasoned equity issues compared to prices
obtained when such issues are underwritten by a commercial bank that has a lending
relationship with the issuer.8 Chaplinsky and Erwin (2001) also study structural change in US
equity underwriting since deregulation. They find that commercial banks have made inroads
into investment banking, but mainly through acquisition of independent investment banks.
Average investment banking market shares of commercial banks do not increase after mergers
with investment banks. The aggregate market share of merging firms declines significantly
following merger and the decline is more pronounced for IPOs than seasoned offerings. Thisfinding suggests that concern about conflicts of interest is an important consideration to bankorganizational structure and raises questions about the importance of information acquisition
economies.
Overall, the evidence from previous research suggests that elimination of regulatory
constraints on the integration of lending and underwriting is not harmful to investors, but thatsuccess at integration depends on governance structure. In particular, it appears that anorganization that does both lending and underwriting must address potential conflicts ofinterest, and, at the same time, realize the informational advantages from the lending function.
III.

Investment Banking Institutions in Japan

During the period of our study, commercial banks in Japan were prohibited fromdirect involvement in investment banking.9 However, unlike in the US, commercial banks,

8

Also see Gande et al. (l997) who examine debt issues by commercial banks that set up Section 20 subsidiaries
subject to “firewalls” that limit information and financial linkages between them and their respective parent
holding companies. They find that, with these protections in place, in-house underwriting does not lead togreater conflicts.
9
Section 65, Securities and Exchange Act of l948.

10

investment banks, and other firms could be involved in long-term main-bank-centeredrelationships.
A.

Japan’s Main Bank System
The post-war Japanese financial system was bank-dominated because of a

combination of strong government favoritism of bank financing and tight regulation of
securities markets. Hoshi and Kashyap (2001) note that within the banking system, firms
developed a particularly tight relationship with a specific bank, often identified as a “mainbank” relationship. In a comprehensive study, Aoki and Patrick (1994) describe the mainbank system as an “informal set of regular practices, institutional arrangement, and behavior
that constitute a system of corporate finance and governance…” (p. xxxi). They state, “Themain bank not only provides loans, it holds equity, and, in the eyes of the capital market
participants and regulators, is expected to monitor the firm and intervene when things gowrong. (p. 2). Hoshi and Kashyap note that, by definition, a main bank has “close ties to its
customers through lending, shareholding and (often) board representation and other personnel
placement.”(p. 190).
Some recent literature challenges the economic significance of these keiretsu
relationships.10 The evidence from these studies suggests that the costs of the keiretsu system,and the attendant main bank relationships, are growing while the benefits are declining.
Further, this literature suggests that the weakening of keiretsu ties has been more pronounced
during the last decade as financial deregulation in the l990s took hold, and as firms matured
and capital markets deepened. Therefore, our analysis also is an implicit test of whether theseinformal networks continue to be economically significant. Our data allow us to examine the10

See Miwa and Ramseyer (2002) and Okumura (2000).

11

strength of main bank relationships in a market where moral hazard and adverse selection
problems are likely to be important, the market for IPOs.
The late 1990s was a period of turmoil for Japan’s financial system. The system’s
solvency was jeopardized by a common practice of banks over-extending credit to existingclients and making new loans to problem customers to disguise and postpone defaults. 11
During this period, Japan was aggressively restructuring, deregulating, and opening its
financial system and markets through a series of changes, culminating in the later part of thel990s in what has been referred to as the Big Bang.12
B.

Regulation of Initial Public Offerings in Japan
During the l995 to 1999 period, two different regulatory regimes governed the initialpublic offering process. From l995 though late l997, IPO issuers were required to use ahybrid auction method. Since late l997 issuers have been permitted to select either theauction method or a book-building method similar to the US method. Since shortly after its
introduction, all issuers in Japan have selected book building. Additionally, equity capital
market behavior over the period was tumultuous. Coinciding with the auction portion of oursample period, the equity market in Japan declined steadily. Between January 1995 and theend of September 1997, the JASDAQ Index lost 45 percent of its value. During the bookbuilding portion of our sample period, the JASDAQ index appreciated by 139 percent. Hence,for both reasons, the environments for security offerings were very different between the two
regimes.

11

See Brewer et al. (2003) who examine the failure of three Japanese banks during this period and theaccompanying stock market reactions.
12
Restrictions that separate commercial and investment banking were not lifted until October 1999. Hoshi and
Kashyap (2001) note at p. 291 that restrictions that separate banking, securities business, and insurance werecompletely lifted by April 2001.

12

Previous research (Kutsuna and Smith, 2003) documents significant differences in theoutcomes of the IPO process under these two regimes. In particular, they find that the auction
method reduced capital market access for younger and riskier firms. Compared to auctioning,book building, enabled smaller, younger, less financially mature firms to go public. Whilemost firms that did issue during the period would have had higher total issue cost with bookbuilding, well-established firms were able to place larger issues and complete them at lower
cost than would have been possible in the auction regime.
The Auction Regime: Under the auction procedure, in place in Japan from l989 untillate 1997, the issuer designated a portion of the issue (usually 50 percent) to be offered via
discriminatory auction. The firm’s underwriter issued a preliminary prospectus that specified
a minimum bid. Regulations precluded insider participation in the auction and limited the
maximum number of shares any single participant could bid to acquire. After the auction wascomplete, the underwriter would conduct a formal firm-commitment offering of remaining
shares.
The underwriter’s role in an auction method IPO is extremely limited.

The

underwriter sets the minimum bid price, conducts the auction, sets the firm-commitment pricebased on the auction results, and conducts the firm-commitment offering. In addition, theunderwriter conducts due diligence on the issuer and prepares the preliminary and final
prospectuses used in the offering and effectively guarantees the firm commitment offer priceto the issuer. During the auction regime, underwriter fees were fixed by informal agreement
at artificially low levels of 3.1 to 3.5 percent of gross proceeds.
The Book-building Regime: The book-building method, introduced in Japan in latel997, is modeled after the US system. Under this system, underwriters and issuers use road13

shows and other pre-marketing methods to assess indications of interest, and determine offer
price.

There is no requirement that the offer price be linked by formula to values ofcomparable firms and there is no limit on the number of shares that any one investor canpurchase. The underwriter can allocate shares of over-subscribed offerings in a manner
similar to in the US.
Under the book-building method, as in the US, the underwriter establishes a filing
range that appears in the preliminary prospectus.

The filing range is set based on theunderwriter’s due diligence and examination of market valuations of other issues.
The two underwriting approaches encompass very different roles for underwriters. In
the auction regime, the underwriter’s role is more passive, and issue pricing is determined
mainly by the results of the auction. In the book-building regime, the underwriter establishes
the filing range based on its due diligence and valuation efforts, and pre-sells the issue. Ourevidence reflects the underwriter’s different roles in the two regimes.
IV.

Data

Our data include all JASDAQ IPOs over the period l995 through 1999, 484 total IPOs,
including 321 from the auction regime and 163 from the book-building regime. While a few
companies in Japan go public on the Tokyo Stock Exchange, the overwhelming majority of
IPOs in Japan occur on JASDAQ.
A.

Issue Characteristics
Table 1 provides descriptive statistics for characteristics of the IPO during bothregimes. Panel (a) shows characteristics of the issuing firms. Consistent with the above
discussion, firms going public during the auction regime are older and larger than are firms
going public during the book-building regime. The relative proportions of firms in retailing,14

manufacturing, service, and other industries are approximately the same over the two periods.
The firm location variable measures the number of IPOs completed in the firm’s prefectureduring the sample period. Access to investment banks may depend on the level of IPO
activity in the market where the issuing firm is located. Tokyo prefecture, for example, had
the highest level of activity, with 241 IPOs (49.8 percent of the sample). Next were Aichi
with 33, Osaka with 30, and Kanagawa with 29. Five prefectures of Japan’s 47 prefectures
had no IPOs during the period, 14 had only one IPO.
Panel (b) shows information on market-wide value changes or “runup” in the
JASDAQ Index in the 20-day interval and 40-day interval before the IPO. Market-wide valuechange before the IPO are expected to affect realized total issue cost, as offer terms do not
fully adjust to market-wide changes. Significant differences in market-wide value changes
between the regimes are apparent in the averages. The table also shows market-adjusted 12and 24-month returns following the IPO. Adjusting for the JASDAQ returns, returns during
the book-building regime are considerably higher and more uncertain than returns during theauction regime. However, differences in market-adjusted aftermarket performance between
regimes are not statistically significant.
Offer characteristics displayed in panel (c) indicate that offer size is more variable
during the book-building regime and that average total issue cost is much higher than during
the auction regime. Issue cost is measured as underwriting fee plus underpricing per share,
divided by first aftermarket price. In part, the difference between regimes is attributable tothe difference in market run-up documented in panel (b). This is because pricing of issues
reflects information available 20 to 40 days prior to issue; hence, the greater the run-up thegreater the underpricing will be. Run-up, however, does not account for the entire difference15

in total issue cost. The panel also contains information on uses of proceeds. Use-of-proceeds
percentages are based only on primary shares. On average, 40 percent of IPO proceeds in theauction regime, and 39 percent in the book-building regime, accrued to secondary-share sales.
As shown, there are differences between regimes in the reported uses of primary-shareproceeds. Most notably, during the book-building regime, use of proceeds to repay debt islower and issuing firms report a higher percentage of proceeds not identified with any specificpurpose. Conceivably, it is more important for a prospectus to specify proceed uses whenshares are sold via auction as the underwriter’s role in auction IPOs is more limited.
Finally, panel (d) contains information on main bank relationships and underwritermarket share. The variable, “Related underwriter” indicates whether the investment bank andissuing firm are related through the same main bank. Consistent with the view that keiretsu
main bank relationships are weak, the percent of issues that involve related underwriters is
low during both regimes. In contrast, the percent of IPOs using underwriters with high IPO
market shares is high in both regimes. The suggestion from this evidence is that issuers facetradeoffs between the potential benefits of main bank relationships and the potential benefitsof using a large underwriter to conduct the IPO.
B.

Main Bank Relationships
In Table 2, we identify the investment banks that underwrote IPOs during the study

period and their affiliated main banks. For issuers, we rely on the Research Group for
Disclosure’s identifications of main banks, which is based on information from the issuer’s
prospectus. Main bank affiliations of investment banks are determined on the basis of the16commercial bank’s holding of equity in the investment bank as of March l999. 13 Equity
holdings are reported by Toyo Kezai DataBank on Kigyo Keiretsu (2000).
Figures in the Table 2 for “I-Bank Market Share” are the percentages of IPOs, during
each regime, that are underwritten by the specified investment bank. For example, Nomura is
the largest underwriter in Japan and, during both regimes; they underwrote approximately 33
percent of the IPOs. Similarly, figures for “Main Bank Market Share” are the percentages ofissuers that are affiliated with a specified main bank. To illustrate, Sakura is the main bank of
8.1 percent of the sample firms that made an IPO during the auction regime. Figures in the“Related Market Share” column are the percentages of IPOs where the issuer and theunderwriter have the same main bank. The column shows that, during the auction regime, for
2.5 percent of all issues, Nomura underwrote the issue and Sakura was the main bank of boththe issuer and the Nomura. The bottom row of the table shows the percentages of IPOs forwhich the issuer’s bank is not a main bank for any investment bank. As shown, during theauction period, 35.5% of issuers had main banks that were not main banks of any underwriter.
Table 2 shows a clear demarcation between the few investment banks with high IPO
market shares and the larger number with low shares. In subsequent analysis, we classify
investment banks with market shares above 10 percent as major underwriters. Nomura,
Daiwa, and Nikko are classified as majors in both regimes. Yamaichi, which was a major
during the auction regime, failed around the time of the change to book building. For major
underwriters, the percentages of issues where the issuer and the investment bank are related
are generally somewhat higher than what would be expected by chance assignment of issuers
13

Because of the bankruptcy of investment bank, Yamaichi, in late l997, we use equity holdings as of Marchl995 to identify Yamaichi’s main bank for those IPOs underwritten prior to bankruptcy. Also, due to the mergerof Nikko Securities and Solomon in l998, we use equity holdings as of March l998 to identify the main bank for17

to investment bank based on investment bank market share. Most small investment banks
have lower than expected percentages of related issues. A few, Kankaku in particular, havehigher levels of related IPOs than would be expected by chance. Overall, the evidence inTable 2 suggests that issuers sometimes migrate to large investment banks and other times
they remain with their related investment bank.
In part, investment bank selection is related to the issuer’s location and the amount of
IPO activity in the location. In the Tokyo prefecture, for example, 42.7 percent of issuers
were affiliated with major underwriters. In contrast, only 15.2 percent of issuers in otherprefectures were affiliated with major underwriters. In areas other than Japan’s main money
center, issuers are more likely to have regional main banks that are affiliated with smaller
investment banks. Regional banks may have correspondent relationships with money-centerbanks and issuers may use those relationships to increase access to a major investment bank.
As we are unable to verify correspondent relationships or the issuer reliance on them, weclassify IPOs as conducted by a “non-related” investment bank unless the issuer has a direct
relationship to the investment bank through a common main bank.
C.

Investment Bank Relationships and Use of Major Investment Banks
Table 3 presents comparative statistics on IPOs underwritten by investment banks thatare related to the issuer and those that are not. In both regimes, IPOs of firms related toinvestment banks have lower mean total issue cost and lower underpricing. However, theseissues also have more negative JASDAQ performance over the 40 days before the IPO. Thus,
at least in part, differences in issue cost are attributable to differences in market-wide
performance before the IPO

all Nikko-backed IPOs prior to that date and use holdings as of March l999 for IPO observations dated from
April l998 to the end of the sample period.

18

The difference in market run-up for IPOs using related versus non-related investmentbank does not preclude the possibility that the observed cost difference results partly fromusing a related investment bank. The joint probability that, by chance, market run-ups of
IPOs with related investment banks would be significantly lower at the observed levels inboth regimes is less than one percent. However, we can find no obvious explanation for thedifference. For example, in neither regime is there a secular timing difference between
related and non-related IPOs that might produce a spurious result associated with the drift ofthe market. Conceivably, related investment banks are more willing to underwrite IPOs
following declining or non-rising markets. Also, issues involving non-related investmentbanks may more likely be cancelled in the face of market declines. We tested for thisindirectly, by comparing the percent of IPOs with zero or negative run-ups over the 40 days
before the offering. Consistent with this possibility, the percentages of IPOs with nonpositive run-ups were significantly higher for non-related investment banks in both regimes.
Alternatively, investment banks may be better able to time the issues of related firms.14 As
we use market run-up as a control variable in subsequent empirical analysis, it is important torecognize that the analysis masks this possible benefit of using a related investment bank.
The underwriter market share evidence shows, generally, that when issuers use nonrelated investment banks, they tend to select investment banks with high market. Underwritermarket share is significantly higher when the underwriter is not related to the issuer. In theauction regime, 259 issuers (80.7 percent) used major investment banks. Had all issuers usedtheir related investment banks, only 101 issues (31.5 percent) would have been underwritten
by majors.

In the book-building regime, the shift was to 131 issues (80.4 percent) from a

14

Or, if non-related investment banks have market timing ability, they may use it to increase ex post
underpricing, to the detriment of issuers.

19

default level of 39 issues (23.9 percent). Consistent with this, issuers who used related
investment banks were significantly more likely to be related to major underwriters.
The information on the percentage of deals consummated with a “default major
underwriter” suggests a systematic pattern in underwriter selection.

Default major

underwriter is a binary variable that equals 1 if the issuer is related to an investment bank thatis classified as a major underwriter; the variable equals 0 if the issuer’s main bank does nothave a relationship with a major underwriter.15 The table shows that, during the auction
regime, 62.2% of those issuing firms that selected a related investment bank were affiliatedwith a major investment bank; however, only 26.4% of those who selected a non-related
investment bank were affiliated with a major investment bank. A similar pattern emerges
during the book-building regime. The results suggest that the choice to use a non-relatedbank stems from the firm not having a relationship to a major underwriter. Also, if a firmuses a non-related investment bank that investment bank is more likely to be a major bank.
Table 3 also indicates that issuers who used non-related investment banks tend to be
younger firms across both regimes. Issues underwritten by non-related investment banks are
significantly larger that issues underwritten by related investment banks in the book-building
regime, and issuers located in prefectures with low IPO activity are more likely to select nonrelated investment banks in both regimes.
Finally, in Table 3 we report mean and median JASDAQ-adjusted returns for various
intervals after the IPO. The differences in one-month returns are not significant for either
regime. We use one-month returns as an indicator of whether a difference exists in the15

If the main bank is related to both major and non-major investment banks, we classify the issuer as having adefault major underwriter. This only applies to issuers whose main bank is Sakura, as Sakura Bank is affiliatedwith both Nomura and Kokusai. In the auction regime, all of the issuing firms with access to a default major

20

propensities for related and non-related investment banks to artificially support the issue
prices.

We examine returns over longer periods to test for the possibility that related

investment banks are more likely to conceal negative information from investors and whether
first aftermarket prices suggest that investors rationally provide for conflicts of interest in
IPOs underwritten by related investment banks. Differences in mean 12-month returns are
not significant. For 24 months, the differences are marginally significant. However, thedifferences are driven by a small number of extreme positive outliers. When median returns
are compared between related and non-related groups, we find that the differences over 24months are negligible.

The evidence is not consistent with the hypothesis that related

investment banks are able to mislead investors about the values of IPOs.
To further explore issuer and underwriter relationships, Table 4 compares IPOs
underwritten by major investment banks and other investment banks. There are no significant
differences in issue costs or market run-up for major versus other investment banks. The
results do intimate the importance of relationships: the information on “underwriter market
share” shows that major investment banks are significantly more likely to underwrite IPOs of
non-related issuers in both regimes.

To illustrate, during the auction regime, when theselected underwriter is not a major, the issuer and the investment bank are related 27.4 percentof the time. In contrast when the selected investment bank is a major, and the issuer andselected investment bank are related only 10.8 percent of the time.
The difference it importance of the underwriter in the two regimes is suggested by thecontrasting findings for percent of IPOs using the default major underwriter.

From Tables 1

and 2, we know that smaller and younger firms were more likely to issue during bookunderwriter did employ the default underwriter. However, in the book-building regime, there was one casewhere an issuing firm elected not to use the default major underwriter.

21

building than auction, suggesting a more important information-production role for the mainbank and suggesting that banking relationships are more important in the book-building
regime. The results show that, during book building, when a major investment bank isselected, 72.3 percent of the time the firm’s default investment bank is a non-major (27.7
percent of the time the default is a major underwriter). In comparison, when a non-major isselected, 90.9 percent of the time the default is a non-major. During this period, issuers tend
to stay with their related underwriters even if the related underwriter is not a major
underwriter. In contrast, during the auction regime, when an issuer selected a non-major
underwriter, the default underwriter was a non-major 67.7 percent of the time (default major
underwriter is 32.3 percent). Issuing firms selecting non-major underwriters were more likely
to stay with their related bank in the book-building regime than in the auction regime. The
latter result suggests that during the auction regime it was relatively easy for issuers to selectnon-related underwriters.

V.

Empirical Results

A. Overview
We use the combined results of three approaches to examine the effects of mainbanking relationships on access to equity capital markets and on issue cost.

For eachapproach we estimate the model separately for both regimes and for the data pooled over bothregimes. First, we use a Heckman two-step model to identify the determinants of the decision
to use a related investment bank or one that is not related. The results suggest that issuers
substitute away from related investment banks when they seek underwriters with larger
market shares and when they seek to place large issues. We use estimates of the self-selection22

effects from the first-stage model to estimate models of total issue cost for issues done withrelated and non-related investment banks.

Because, in our sample, the number ofobservations of IPOs using related investment banks is small, the second-stage estimates are
not sufficiently stable to be used for generating reliable estimates of expected total issue cost.
Accordingly, we use the second stage estimates only to examine the determinants of total
issue cost.
In the second approach, we estimate a simultaneous-equation system of total issue cost
and the investment bank’s relationship to the issuer. From this model, consistent with theconflict of interest hypothesis, we find that, for total issue cost, the partial effect of theinvestment bank’s relationship to the issuer is positive:

issue cost is higher when theinvestment bank is related to the issuer. However, the estimates of the investment bankrelationship model indicate that issuers use related investment banks when total issue cost is
low. As the total issue cost models do not control for the issuer’s ability to select a nonrelated investment bank, they do not reveal whether, on net, issuers who use related
investment banks are worse off. To assess the net effect of the investment bank relationshipon total issue cost, we estimate an OLS model of total issue cost. We find that realized total
issue cost is similar for issues involving related and non-related investment banks. However,these estimates do not reflect the possible advantages of using a related investment bank thatare documented in Table 3. That is, related banks may be better at timing issues or better able
to credibly underwrite issues following a market decline.
B.

The Choice of Related or Non-Related Investment Bank
Table 5 shows estimates of a probit model of the decision to use a related investmentbank. As explanatory variables of the choice, we include the selected investment bank’s share23

of IPO underwriting activity during the regime; a directional variable for whether the selected
investment bank reflects a change in investment bank size relative to the size of the related
investment bank: to a major underwriter (+1), away from a major underwriter (-1), or nochange, including using the related investment bank (0); and a measure of issue size in logs.
In the pooled data, we include a binary variable for regime, but restrict the other coefficientestimates to be fixed across regimes.
We expect issuers to switch from related investment banks when they seek to engage
major underwriters and when they need the service of a major underwriter in order toaccomplish a large IPO. Results in Table 5 are consistent with expectations, as the sign of thecoefficients of the “change of major underwriter” variable is negative across both regimes.
The lack of significance for the issue size variable in the auction regime reflects the restrictive
regulations governing the regime. These restrictions effectively prevented very large and verysmall IPOs from occurring, limiting the cross-sectional variation in issue size.16
Table 6 contains second-stage Heckman estimates of total issue cost. Explanatorymodels of total issue cost generally are weak in the auction regime. This is symptomatic of
the regulatory and other constraints of the auction regime. Among other things, investors had
agreed to a very low percentage fee for IPO underwriting. With the issue price determinedlargely by the results of the initial auctioning of about half of the shares, the underwriter’sability to affect underpricing was limited. The net result is that, in the Table 6 models for theauction regime, JASDAQ run-up before the IPO is the most important explanatory variable.
Firm size and age control variables sometimes are significant. For the auction observations,
underwriter market share is significant in the non-related investment bank model, suggestingthat when issuers shift to non-related underwriters, those banks with the larger market shares24

tend to underprice more. This coefficient is not significantly different from the market sharecoefficient for the related investment banker model.
As a test of whether underwriters attempt to opportunistically over price IPOs ofrelated issuers, we include the one-month market-adjusted return to proxy for expected mispricing. The fact that the return is positive in the related investment bank model but not in the
non-related investment bank model suggests that, if anything, the market is overly concerned
about the underwriter’s possible conflict of interest. The Mills ratio, which reflects the effects
of self-selection on the estimates, is marginally significant in the non-related investment bankmodel.
In the book-building regime, the underwriter’s role is more active. As such, we expect
total issue cost to reflect the underwriter’s costs of certifying and pre-marketing the IPO.
Consistent with this expectation, issue cost as a percentage of aftermarket value generally
declines with various indicators of firm size and track record. In contrast to the auctionregime estimates, underwriter market share is not significant once the firm and issue
characteristics are included in the model. JASDAQ run-up is, again, highly significant in thebook-building regime. The one-month return after the IPO again suggests that, if anything,
investors are overly concerned about the related underwriter’s conflict of interest.17
When the two regimes are combined, the model estimates generally are strengthened.
The binary indicator for the book-building regime is significant in both related and nonrelated issuer models.

16

See Kutsuna and Smith (2003) for additional information of the effect of auction regulations on issue size.
Relationships involving longer windows of JASDAQ-adjusted aftermarket returns are not significant in
explaining total issue cost in the Heckman model or in any of the other models.

17

25

B.

Simultaneous Equation Estimates
In principle, results of the second-stage models can be used to compare expected total

issue cost for each issuer, of using either a related or non-related investment bank. However,as shown in Table 6, the numbers of observations of issues with related investment banks arevery low in both regimes. As a result, the selectivity approach yields predictions that are notvery stable and are highly sensitive to which variables are included in the first- and secondstage models.
As an alternative, in Table 7, we estimate a simultaneous system. While this method
does not control for self-selection, the coefficient estimates reflect partial effects of the
included variables. As most results are similar to results in Table 6, we focus discussion only
on the new information. In contrast to the Heckman models, we are able to combine IPOs
with related and non-related investment banks into a single model.

We restrict mostcoefficients to be the same for related and non-related issues but include a binary variablereflecting whether the issuer and investment bank are related. The coefficient on this variablereflects the partial effect of the relationship on total issue cost. Thus, it serves as a test of theinvestment bank’s effort to exploit a conflict of interest by offering a noncompetitive total
issue cost. As total issue cost is only observable after the offering, the issuer would perceive
the underwriter’s efforts to exploit its bargaining power in the form of a low valuation of theissuer’s shares and possibly (in the book-building regime) high fees for underwriting the issue.
To test whether related investment banks attempt to exploit investors by concealing negative
information or otherwise inducing investors to over-value the shares of related issuers, we
include an interaction of the JASDAQ-adjusted one-month aftermarket return.

26

The positive and generally significant coefficient on the investment bank relationshipin the total issue cost model is consistent with the conflict of interest hypothesis. However,
the total issue cost model does not capture the issuer’s ability to avoid the conflict byselecting a non-related investment bank. In the underwriter affiliation model, the negativeand significant coefficient on total issue cost is evidence that issuers tend to stay with theirrelated investment banks when they perceive that the related bank will offer a lower total
issue cost, ceteris paribus. While total issue cost is not observable by the issuer at the timethe investment bank is selected, we use the actual total issue cost to proxy for the issuer’s
estimate of expected total issue cost.
The coefficient on the interacted aftermarket return variable is significantly positive inboth regimes, whereas the non-interacted variable is not significant. The result comports withthe evidence in Table 6 and is inconsistent with hypothesis that related investment banks
successfully lead investors to overvalue the shares of related issuers. Rather, it appears that,investors tend to undervalue the shares of related issuers. As the long-run median returns are
virtually identical for related and non-related issues, we find no support for this aspect of theconflict of interest hypothesis.
C.

Ordinary Least Squares Estimates of Net Effects
Do issuers benefit by using related investment banks or are they harmed? Given thepartial effects in Table 7, the answer is not clear. It appears that related investment banks
expect to exploit bargaining power, but issuers who are faced with attempts to exploit
bargaining power use non-related investment banks. Table 8 reports the results of an ordinary
least squares estimate of total issue cost. This model reveals the net effects of the investmentbank’s effort to exploit its bargaining advantage and the issuer’s effort to shop for27

underwriting services. We find no significant difference between total issue cost of issues
using related and non-related investment banks.

The estimated partial effect of therelationship is near zero in both regimes.
As noted previously, this estimate, as well as the estimates in Tables 6 and 7, does nottake account of the evidence from Table 3, that related investment banks appear to be more
likely to underwrite IPOs following periods when the market has not experienced a significant
run-up in the 40 days before the offering. In contrast to non-related investment banks, related
investment banks appear to go forward with plans for IPOs even if the market timing may
suggest they postpone or withdraw the offering. Investor concern with adverse selection ofsuch offerings appears to be solved with the certification that accompanies the banking
relationship with the issuer.
For completeness, Table 8 includes OLS estimates of the investment bank relationshipmodel. As should be expected, coefficients on total issue cost as explanatory factors are
weaker than when the system is estimated simultaneously.
D.

Use of Proceeds
As previously noted, in Table 3 we find no significant differences in JASDAQ-

adjusted aftermarket returns between IPOs with related and non-related investment banks forone-month and 12-month intervals after the IPO. While 24-month mean adjusted returns are
marginally higher for IPOs using related investment banks, the difference is driven by a small
number of extreme positive outliers in the non-related IPOs.

There are no material

differences in median returns over any interval.
Further, in Table 6, we find that total issue cost of IPOs with related investment banks
is positively related to abnormal returns in the month after the IPO. This result indicates that28

investors in IPOs using related investment banks initially undervalue them in a way that is
positively related to underpricing. There is no similar pattern for IPOs using non-related
investment banks.
While these estimates suggest that investors are not misled into overvaluing issues
using related investment banks, the models do not directly examine the issue of self-dealing.
Main banks could engage in self-dealing either by participating as a selling shareholder insubsequent secondary offerings or by causing primary proceeds to be used to redeem debt
owed to the main bank. Irrespective of whether self-dealing occurs, our previous evidence
indicates that investors are not misled into overvaluing IPOs of issues where related
investment banks are used. This, however, does not preclude the possibility that main banks
may engage in self-dealing, even if the market correctly perceives their efforts. While selfdealing that is anticipated by the market does not harm new investors in the issuer, and does
not harm the reputation of the investment bank, it could, by transferring wealth fromstockholders to the main bank, harm existing investors in the issuer.
To test for self-dealing, we examine differences in uses of proceeds between related
and non-related IPOs. Table 9 shows the percentage allocations of total net proceeds tosecondary versus primary shares and the percentage allocations of primary net proceeds tospecific uses. We find no significant differences in either regime in the percentages of total
net proceeds allocated to secondary sales of shares. Nor, in either regime, are issuers who use
related investment banks significantly more likely to use proceeds to redeem outstanding debt
or to allocate proceeds to other unspecified uses than are issuers who used non-related
investment banks.18

18

We also estimated OLS models of the use of proceeds to redeem debt as functions of relationships toinvestment banks and the investment bank market share. None of these models produced significant results.

29

VI.

Conclusions

In this paper we study the role of banking relationships in IPO underwriting. Amongother issues, we are interested in whether such relationships lead to increased access to equity
capital markets. In summary, main bank relationships to investment banks are valuable to IPO
issuers in Japan. Main bank lending relationships appear to give small issuers greater assess
to equity capital markets than they would have if commercial banks and investment banks
were not related. Large issuers whose main bank relationships are with small investmentbanks appear to be able to switch to large non-related investment banks that are capable ofmanaging larger offerings. The findings are important for policymakers who are concernedthat problems with conflicts of interest and self-dealing by banks are most acute whenfinancial markets are under stress and for those securities subject to significant informational
asymmetries, like IPOs.
While we find evidence that related investment banks seek to exploit relationshipbased bargaining power by charging higher fees and/or by underpricing more, our evidence
indicates that the investment bank’s bargaining power is limited and that issuers respond tohigh expected issue cost by using non-related investment banks. On average, holding otherfactors constant, issuers who use related banks have total issue costs that are comparable tototal issue costs when issuers use non-related investment banks.
We find no significant evidence that IPOs underwritten by related investment banks
are systematically over-valued by investors and no significant evidence that main banks
attempt to exploit their relationships to issuers and underwriters by selling shares ofovervalued issuers or using proceeds disproportionately to extinguish issuer’s debt owed tothe main bank.

30

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33

Table 1
Summary Statistics for Issuing Firms and IPO Attributes
Sample means (standard deviations) for 321 auction-method offerings and 163 book-building-method
offerings by JASDAQ firms during 1995 through 1999.
Variable

Definition

Panel (a) Issuing Firm Characteristics
Firm AgeAge of firm in years, at time of issue
Employees

Number of employees

Sales

Annual sales prior to offering, in millions of yen

Commercial
Manufacturing
Service
Other
Firm Location

Binary variable equals 1 if a retail enterprise
Binary variable equals 1 if a manufacturing enterprise
Binary variable equals 1 if a service enterprise
Binary, equals 1 if wholesalers, mining, or financial firm
Number of firms in the issuing firm’s prefecture thatcompleted an IPO during the sample period, l995-l999
Panel (b) Pre- and Post-IPO Performance
Runup 20
Run-up in the JASDAQ Index over 20 days prior to IPO
Runup 40

Run-up in the JASDAQ Index over 40 days prior to IPO

Return 12

Market adjusted return over 12 months after IPO

Return 24

Market adjusted return over 24 months after IPO

Panel (c) Offer Characteristics
Offer Size
In thousands of yen, based on offer priceTotal Issue
Cost
Working
CapitalLong-term
Investment
Repay Debt

Includes underwriting fees plus underpricing, as apercent of first after-market price
Percent of primary proceeds used for working capital

Percent of primary proceeds used for debt repayment

Other Use

Percent of primary proceeds used for other uses

Percent of primary proceeds used for investment

Panel (d) Relationships
Related IBinary variable, equals 1 if issuing firm and investment
Bankbank share the same “main bank”
Major
Binary variable, equals 1 if the investment bank has
Underwritermarket share > 10%, based on share of IPO businessover sample period

AuctionRegimeBookbuilding
Regimet-value

30.0(13.1)
465.0(500.6)
18,607(22,035)
31.15%
34.89%
19.31%
14.64%
119.8(111.9)24.8(26.8)
374.3(467.6)
15,873(15,017)30.06%
30.67%
23.93%
15.34%
146.0(111.5)2.84***-2.4%(5.5%)-3.8%(9.0%)-1.8%(37.2%)-5.3%(76.0%)

3.8%(10.3%)
6.7%(15.9%)
6.0%(301.9%)89.1%(1170.1%)-5.50***

2,726,934(4,046,173)
11.7%(11.8%)
22.1%(34.6%)
38.4%(40.3%)
34.3%(39.9%)
5.3%(17.7%)

2,877,350(5,198,224)
28.0%(26.8%)
21.8%(35.0%)
39.1%(43.4%)
22. 9%(35.3%)
16.2%(32.9%)-0.24

14.0 %

14.1%

-0.02

80.7%

80.4%

0.17

1.40*
1.13
0.18
0.67
-0.83
-0.14
-1.75*-6.00***
-0.31
-0.98

-5.93***
0.05-0.12
2.28**-3.05***

Data sources: IPO Prospectus and Research Group for Disclosure. Research Group for Disclosure
identifies the main bank of the issuer based on the prospectus of the issuing firm. Stock prices are fromToyo-Keizai Stock Price Data.
***significant at 1%; ** significant at 5%; *significant at 10%.

34

Table 2
Investment Bank and Main Bank Relationships
Table shows market shares of IPOs for investment banks, main banks, and for those IPOs conducted by aninvestment bank that has the same main bank as the issuing firm. Investment bank affiliations with mainbanks are identified on the basis of the main bank’s ownership of investment bank equity. Research Groupfor Disclosure identifies issuing firm main banks. The table includes all investment banks that underwrote
IPOs during the period of study and all related main banks. A main bank can be related to more than one
investment bank. All figures in are percentages based on 321 auction-method IPOs or 163 book-buildingmethod IPOs.

Auction Regime
Investment Bank

Main Bank

I-BankMarketShare

Nomura Securities
Daiwa Securities
Nikko Securities
Yamaichi Securities
Kokusai Securities
Kankaku Securities
New Japan Securities
Wako Securities
Dai-Ichi Securities
Sanyo Securities
Universal Securities
Okasan Securities
Cosmo Securities
Tokai Maruman Sec.
Ichiyoshi Securities
Marusan Securities
OthersSakura Bank
Sumitomo Bank
Bank of Tokyo-Mitsubishi
Fuji Bank
Sakura Bank
Dai-Ichi Kangyo Bank
Industrial Bank of Japan
Industrial Bank of Japan
Long-Term Credit Bank
Daiwa Bank
Long-Term Credit Bank
Industrial Bank of Japan
Daiwa Bank
Tokai Bank
Sanwa Bank
Industrial Bank of Japan
Others

32.7
17.4
17.4
13.1
4.7
5.0
2.2
1.9
1.2
1.2
0.9
0.9
0.6
0.6
0.0
0.0
0.0

35

Main
Bank
Market
Share
8.1
5.3
9.3
8.1
8.1
10.9
1.6
1.6
1.6
2.8
1.6
1.6
2.8
10.3
5.9
1.6
35.5

RelatedBank
Market
Share
2.5
0.9
3.4
1.9
0.0
3.4
0.0
0.6
0.3
0.0
0.0
0.0
0.3
0.6
0.0
0.0
0.0

Book-building Regime
I-BankMarket
Share
33.1
20.9
25.8
0.6
6.7
2.5
4.9
1.8
0.6
0.0
0.0
0.0
0.6
0.6
1.2
0.6
0.0

Main
Bank
Market
Share
6.1
8.0
9.8
9.2
6.1
15.3
1.8
1.8
0.0
1.2
0.0
1.8
1.2
4.9
11.7
1.8
31.9

RelatedBank
Market
Share
2.5
3.1
3.1
0.0
0.6
2.5
1.2
0.0
0.0
0.0
0.0
0.0
0.6
0.6
0.0
0.0
0.0

Table 3
Comparative Statistics for IPOs Using Related and Non-Related Investment Banks
Comparisons of issue cost, underwriter market share, issue characteristics, and aftermarket performance for
321 auction regime and 163 book-building regime IPOs. Table reports tests for differences in means
between IPOs underwritten by related investment banks and by non-related investment banks. A “related”
bank means that the underwriter and the issuer share the same main bank. The “Underwriter Market
Share” panel shows: 1) for those firms that select a related (non-related) investment bank: a) the average
market share of the underwriter; b) percent of the deals done by a major underwriter, where a major has amarket share of 10% or more; and c) percent of the deals done by the issuing firm’s default underwriter,where “default underwriter” is a binary variable that equals 1 if the issuer’s main bank is related to an
investment bank that is a major underwriter.

Issue Costs
Total Issue Cost
Underwriter Fees
Underpricing
Run-up 40
IPOs with Positive Run-up 40
Underwriter Market Share
Underwriter Market Share
Major Underwriter (% of obs)
Default Major Underwriter (% ofobs)Issue Details
Firm Age
Employees
Sales
Shares Offered (thousands)
Offer Size (millions yen)
Location
Aftermarket Returns
1 Month Mean Return
1 Month Median Return
12 Month Mean Return
12 Month Median Return
24 Month Mean Return
24 Month Median Return

RelatedAuction Regime
Non-related

t-value

Book-building Regime
RelatedNon-related
t-value

8.1%
3.2%
3.2%
-6.1%
17.8%

12.3%
3.1%
9.2%
-3.4%
35.1%

1.50*
1.47*
1.50*
1.51*
1.99***

20.3%
4.7%
15.6%
0.4%
47.8%

29.3%
4.2%
25.1%
7.8%
69.3%

1.53*
1.34*
1.52*
1.60*
1.45*

14.3%
62.2%
62.2%

19.9%
83.7%
26.4%

2.48***
2.23***
3.56***

17.1%
60.9%
65.2%

23.7%
82.9%
17.1%

1.92**
1.59*
3.54***

34.1
487.8
23546
1258
2448.0
148

29.3
461.2
17802
1219
2772.4115

1.98***
0.28
1.11
0.27
0.58
1.40*

29.6
316.0
18239
1029
1227.3
193

24.1
383.9
15484
1314
3148.4
138

1.33*
0.70
0.52
1.82**
2.70***
1.88**

-2.0%
-4.6%
-4.2%
-13.5%-20.1%-19.9%

-2.9%
-4.3%
-1.5%
-8.8%
-2.9%
-19.9%

0.21-17.4%-22.7%-42.8%-29.9%-60.3%-58.6%

-6.9%
-9.3%
14.2%
-31.5%
114.0%-56.4%

1.12

0.39
1.37*

***significant at 1%; ** significant at 5%; *significant at 10%.

36

1.02
1.28

Table 4
Comparative Statistics for IPOs Using Major and Non-Major Investment Banks
Comparisons of issue cost, underwriter market share characteristics for 321 auction regime and 163 bookbuilding regime IPOs. Table reports tests for differences in means in characteristics of IPOs underwritten
by major investment banks and smaller investment banks, where a “major” has a market share of 10% ormore. The “Underwriter Market Share” panel shows: for those firms that select a major (non-major)
investment bank: a) percent of the deals done by the issuing firm’s default underwriter, where “default
underwriter” is a binary variable that equals 1 if the issuer’s main bank is related to an investment bank thatis a major underwriter, and b) % of the deals done by a related underwriter (one who shares the same mainbank as the issuer).
Auction Regime
Major I-Bank Other I-Bank
Issue Costs
Total Issue Cost
Underwriter Fees
Underpricing
Run-up 40
Underwriter Market Share
Default Major Underwriter (% ofobs.)
Related Underwriter (% of obs.)
Issue Details
Firm Age
Employees
Sales
Shares Offered (thousands)
Offer Size (millions yen)
Locationt-value

Book-building Regime
Major I-Bank Other I-Bank t-value

12.1%
3.1%
9.0%
-3.6%

10.1%
3.1%
7.0%
-4.5%

0.80
0.55
0.79
0.53

28.8%
4.3%
24.5%
7.7%

25.0%
4.3%
20.7%
3.0%

0.53
0.11
0.51
1.11

31.3%

32.3%

0.11

27.7%

9.1%

2.04***

10.8%

27.4%

2.16***

10.8%

27.3%

1.54*

29.1
467.4
18736
1270
2848.8
115

33.7
454.7
18069
1032
2218.0139

2.02***
0.14
0.18
2.94***
1.24
1.14

24.4
394.8
16894
1319
3152.8
140

26.4
293.6
11852
1093
1792.2
168

0.56
0.92
1.41*
1.10
1.21
0.97

***significant at 1%; ** significant at 5%; *significant at 10%.

37

Table 5
Heckman Selection Model Estimates of Choice to Use
the Underwriter Related to the Issuer’s Main Bank
Probit first-stage selection estimates where the dependent variable equals one if the issuer uses a related
investment bank and zero otherwise. Estimates are based on 321 IPOs during the auction regime, 163 IPOs
during the book-building regime, and 484 total IPOs. “Change to major” is a directional variable: =1 if
the issuer had a related underwriter that was not a major underwriter and switched to a major; =0 if theissuer had a related underwriter that was a major and chose to use that underwriter or switched to anothermajor underwriter. Book Building Regime is a dummy variable that equals 1 for observations during thebook-building period.

Underwriter Market Share (Pct)Change to Major Underwriter
Issue Size (Ln thousands of yen)Book Building Regime
Constant

AuctionRegimeCoef.
z-value

Book-Building
RegimeCoef.
z-value

BothRegimesCoef.
z-value

0.0005-0.9042-0.0059

0.05-4.86***-0.04

0.0140-1.9297-0.3018

1.02-4.71***-2.09***-0.7387-0.41

3.3967

1.71**

0.0044-1.1204-0.1286
0.03890.9961***significant at 1%; ** significant at 5%; *significant at 10%.

38

0.54
-6.79***-1.41*
0.22
0.76

Table 6
Heckman Selection Model Estimates of Total Issue Cost for Issuers Who Use
Underwriters Who Are Related/Not-related to the Issuer’s Main Bank
Heckman second-stage estimates are based on total issue cost as a percent of first aftermarket value.
Estimates are based on 321 IPOs during the auction regime, 163 IPOs during the book-building regime, and484 total IPOs. “Book-Building Regime” is a dummy variable that equals 1 for observations during thebook-building period.

Related Investment Bank
Underwriter Market Share (Pct)Firm Age (Ln years)
Employees (Ln)
Offer Size (Ln thousands of yen)
Market Run-up (Day –40 to -1)
Aftermarket Return (Month 1)
Book-Building Regime
Constant
Mills Ratio (lambda)
Obs.
Non-related Investment Bank
Underwriter Market Share (Pct)Firm Age (Ln years)
Employees (Ln)
Offer Size (Ln thousands of yen)
Market Run-up (Day –40 to -1)
Aftermarket Return (Month 1)
Book-Building Regime
Constant
Mills Ratio (lambda)
Obs.

AuctionRegimeCoef.
z-value

Book-Building
RegimeCoef.
z-value

BothRegimesCoef.
z-value0.00190.1079-0.0072-0.0277
0.57290.13211.00
1.86**-0.25-0.88
2.65***
1.43*-0.0007-0.0203-0.0787
0.01610.90380.1271-0.33-0.41-2.22***
0.33
4.42***
1.58*

0.0
0.11410.0
0.32

0.45370.05250.70
0.49-0.0001
0.0438-0.0259
0.00430.77660.11950.07920.1914-0.0888

45

23

68

0.0024-0.0163-0.0152-0.00100.3787-0.0030

3.23***-1.24-1.80**-0.11
5.28***-0.09

0.0005-0.1139-0.0358-0.0140
1.11590.00150.26-3.56***-1.41*-0.78
9.60***
0.03

0.06640.2268

1.77**
1.62*

0.92700.01303.54***
0.17

276

140

***significant at 1%; ** significant at 5%; *significant at 10%.

39

-0.04
1.06
-1.07
0.14
5.04***
1.78**
1.92**
0.50-0.48

0.0017-0.0672-0.0230-0.0061
0.82790.01740.04790.54340.0619416

1.86**-4.57***-2.23***-0.64
12.35***
0.57
2.48***
3.79***
1.56*

Table 7
Simultaneous Estimates of Total Issue Cost and Investment Bank RelationshipThree-stage least squares estimates of total issue cost and investment bank relationship to the issuer are
based on 321 auction-regime IPOs and 163 book-building-regime IPOs. “Book-Building Regime” is adummy variable that equals 1 for observations during the book-building period. “Change to Major
Underwriter” is a directional variable: =1 if the issuer had a related underwriter that was not a major
underwriter and switched to a major; =0 if the issuer had a related underwriter that was a major and chose
to use that underwriter or switched to another major underwriter.

Total Issue Cost Model
Related Investment Bank
Underwriter Market Share (Pct)Firm Age (Ln years)
Employees (Ln)
Offer Size (Ln thousands of yen)
Market Run-up (Day –40 to -1)
Aftermarket Return (Month 1)(Related I-Bank) * (Aftermarket
Return)Book-Building Regime
Constant
Underwriter Affiliation Model
Total Issue Cost (Pct of Market)
Underwriter Market Share (Pct)Change to Major Underwriter
Firm Age (Ln years)
Employees (Ln)
Offer Size (Ln thousands of yen)Book-Building Regime
Constant
Obs

AuctionRegimeCoef.
z-value

Book-Building
RegimeCoef.
z-value

BothRegimesCoef.
z-value

0.13140.0025-0.0225-0.0148-0.0079
0.4714-0.01470.2546

1.69**
3.32***
1.40*-1.63*-0.81
5.65***-0.39
2.42***

0.16700.0004-0.1096-0.0438-0.0085
1.1387-0.0009
0.29171.23
0.25-3.67***-1.90**-0.51
9.82***
-0.02
1.30*

0.16240.0015-0.0711-0.0253-0.00700.88560.01140.22602.14***
1.94**-4.52***-2.49***-0.76
12.43***
0.36
2.02***

0.34282.31***

0.87093.63***

0.04240.5793

2.24***
4.14***-1.1387
0.0032-0.1966
0.0607-0.01390.0076-2.38***
1.31*-5.20***
1.52*
-0.53
0.28

-0.2808
0.0038-0.3425
0.0460-0.0139-0.0233-1.91**
1.32*-6.20***
1.07
-0.39
-0.94

0.08080.20

0.59091.72**-0.49900.0019-0.2298-0.0396-0.0120-0.0053
0.09600.2903-3.16***
1.14-7.53***
1.35*
-0.58
-0.29
2.37***
1.08

321

163

***significant at 1%; ** significant at 5%; *significant at 10%.

40

484

Table 8
Ordinary Least Squares Estimates of Total Issue Costand Investment Bank Relationship
OLS estimates of total issue cost and investment bank relationship to the issuer are based on 321 auctionregime IPOs and 163 book-building-regime IPOs. “Book-Building Regime” is a dummy variable that
equals 1 for observations during the book-building period. “Change to Major Underwriter” is a directionalvariable: =1 if the issuer had a related underwriter that was not a major underwriter and switched to amajor; =0 if the issuer had a related underwriter that was a major and chose to use that underwriter orswitched to another major underwriter.

Total Issue Cost Model
Affiliated Underwriter
Underwriter Market Share (Pct)Firm Age (Ln years)
Employees (Ln)
Offer Size (Ln thousands of yen)
Market Run-up (Day –40 to -1)
Aftermarket Return (Month 1)(Related I-Bank) * (Aftermarket
Return)Book-Building Regime
Constant
Underwriter Affiliation Model
Total Issue Cost (Pct of Market)
Underwriter Market Share (Pct)Change to Major Underwriter
Firm Age (Ln years)
Employees (Ln)
Issue Size (Ln thousands of yen)Book-Building Regime
Constant
Obs

AuctionRegimeCoef.
z-value

Book-Building
RegimeCoef.
z-value

BothRegimesCoef.
z-value-0.01420.0018-0.0089-0.0137-0.0047
0.40380.00320.1750-0.77
2.93***-0.67-1.63*-0.52
5.72***
0.09
1.98***

0.0363-0.0002-0.1030-0.0423-0.0099
1.08790.00470.12510.67-0.12-3.50***-1.82**-0.58
10.22***
0.09
0.82

0.00510.0007-0.0587-0.0240-0.0058
0.81790.02150.10830.24
1.08-4.20***-2.47***-0.66
13.20***
0.72
1.34*

0.27732.07***

0.8931

3.70***

0.05480.5493

3.14***
4.13***-0.32410.0012-0.1832
0.0613-0.00200.0056-2.04***
0.57-5.08***
1.58*
-0.08
0.21

-0.1027
0.0038-0.34160.0607-0.0065-0.0295

-1.08
1.30*
-6.11***
1.43*
-0.18
-1.20

-0.0245-0.06

0.54391.58*-0.17110.0015-0.22410.0535-0.0034-0.01180.04760.2564-2.07***
0.87-7.42***
1.88**
-0.17
-0.66
1.35*
0.96

321

163

***significant at 1%; ** significant at 5%; *significant at 10%.

41

484

Table 9
Allocation of Proceeds
Simple averages of percentages of total proceeds net of fees secondary sellers of shares and simple
averages of primary net proceeds based on uses as reported in the issuer’s prospectus. Based on 321
auction-regime and 163 book-building-regime IPOs.

Related
Allocation of Total Net Proceeds
Secondary Proceeds to Total
41.1%
Allocation of Primary Net Proceeds
Working Capital
22.3%
Capital Investment
45.3%
Debt Retirement
29.7%
Other Unspecified Uses
2.7%

Auction Regime
Non-related

t-value

Book-building Regime
RelatedNon-related
t-value

40.3%

0.24

34.3%

39.7%

0.87

22.0%
37.3%
35.0%
5.7%

0.38
0.93
0.64
0.89

12.5%
47.9%
24.2%
15.4%

23.4%
37.6%
22.7%
16.4%

1.21
0.73
0.13
0.10

[2003.5.28 651]

42

Discussion Paper
No.
2002・1

AuthorNobuyuki Isagawa

2002・2

Nobuyuki Isagawa

2002・3Mahito Okura

2002・4

Elmer Sterken
Ichiro Tokutsu
Mahito Okura
Mahito Okura
Nobuyuki Isagawa
Koji Okubayashi
Toshinori Takashina

2002・5
2002・6
2002・7
2002・8

2002・9Hajime Shimizu

2002・10 Nobuyuki Isagawa
2002･11

Nobuyuki Isagawa

2002･12Kenji Kutsuna
Richard Smith

2002・13 Kunio Miyashita
2002・14 Hajime Shimizu
2002・15 Hajime Shimizu
2002・16 Koji Okubayashi
2002・17 Fumitoshi Mizutani
Shuji Uranishi
2002・18 Kazuhisa Otogawa
2002・19 Atsuo Takenaka
2002・20 Tsuneo Nakano

2002・21 Tsuneo Nakano
2002・22 Fumitoshi Mizutani
Shuji Uranishi
2002・23 Atsushi Takao
Mahito Okura
2002・24 Fumitoshi Mizutani
2002・25 Fumitoshi Mizutani
Takuya Urakami
2002・26 Yasuyuki Miyahara
2002・27 Nobuyuki Isagawa
2002・28 Mitsutoshi Hirano

Title
Cross Holding of Shares, Unwinding Cross Holding of
Shares, and Managerial
Entrenchment
A Theory of Stock Price Behavior following Repurchase
Announcements
An Equilibrium Analysis of the Insurance Market
with Vertical Differentiation
What are the determinants of the number of bankrelations of Japanese firms?
Review Article：Adverse Selection in Insurance Market
Welfare Effect of Firm Size in Insurance Market
Does Investment Horison Affect Investment Strategy ?
Research Report of Careers and Employment Process ofWorkers over 60 years old :a Case of a Japnaese
Manufacturing Company
On the Existence of Tax Equilibrium : Incomplete Market
with Capital Income Tax
Cost of Financial Distress and Debt Restructuring :Debt Forgiveness and Equity-for-Debt Swap
Open-Market Repurchase Announcements, Actual
Repurchases, and Stock Price Behavior in Inefficient
Markets―revised version of No.2001･36―
Why Does Book Building Drive Out Auction Methodsof IPO Issuance?
Evidence and Implications from Japan
International Logistics and Modal Choice
Incomplete markets with capital income tax and public
goods
On the possibility of Pareto improving of tax-equilibrium
China-Japan Comparison of Work Organization
The Post Office vs. Parcel Delivery Companies:
Competition Effects on Costs and Productivity―revised version of No.2001･33―
Earnings Forecast and Earnings Management of JapaneseInitial Public Offerings Firms
The Classification of Foreign R&D Units
The Dutch East India Company and its Corporate
Governance―revised version of No.2000･40―
The British East India Company and its Corporate
Governance
Privatization Effects on TFP Growth and Capital
Adjustments
Some Notes on the Privatization of Postal Life Insurancein JapanPrivately Owned Railways’ Cost Function, Organization
Size and Ownership
A Private-Public Comaprison of Bus Service Operators
Principal-Multiagent Relationships with Costly
Monitoring
Unwinding of Cross Shareholding under Managerial
Entrenchment
Contingency Model for Personnel Grading System―Issues on Design and Management for Qualification
System and Job Grading System―

Date(in Japanese)

1／ 2002(in Japanese)

1／ 20022／20023／2002(in Japanese)(in Japanese)(in Japnaese)

3／20023／20023／20024／2002(in Japnaese)

4／2002(in Japnaese)

4／20025／20025／2002(in Japnaese)(in Japnaese)

6／20026／20026／20027／20027／20028／2002(in Japanese)(in Japanese)

8／20028／2002(in Japanese)

8／20028／2002(in Japanese)

9／20029／20029／2002
10／2002
10／2002(in Japanese)

11／2002

Discussion Paper
No.
Author
2002・29 Atsushi Takao
2002・30 Yasuhiro Shimizu
2002・31 Hideki Murakami

2002・32 Atsushi Takao

2002・33 Nobuyuki Isagawa
2002・34 Takuji Hara
2003・1 Katsuhiko Kokubu
2003・2 Kazuhiro Tanaka
Fumitoshi Mizutani
2003・3
Shuji Uranishi
Yang Jia Yin
2003・4
Koji Okubayashi
2003・5

Mitsutoshi Hirano

2003・6

Kazuhisa Otogawa

2003・7

Nobuyuki Isagawa
Tadayasu Yamashita

2003・8Kenji Kutsuna
Marc Cowling

2003・9

Noriko Masumura

2003・10

Nobuyuki Isagawa
Katsuhiko Okada

2003・11 Mitsutoshi Hirano
Kenji Kutsuna
Richard Smith
Kenji Kutsuna
2003・13 Janet Kiholm Smith
Richard L. Smith

2003・12Title
On the Emergency Effect of the late FUKUZAWA,
Yukichi in Introducing of Modern Insurance into Japan
Amortization of Intangible Assets before Newark
Morning Ledger
An Economic Analysis of Duopolistic Competition
between Gulliver and Dwarf airlines:
The case of Japanese Domestic Air Markets
Simulation Model to Consider the Penetration of Modern
Insurance in Japan −Confirmation of Emergence andPhase Transition of New Japanese Risk-Bearing System
by Evolutional Economics
Mutual Shareholding and Unwinding of Mutual
Shareholding as Stockpile for Business Recovery
TLOs in Japan in the life science area : present and future
Environmental Accounting for Corporate Management
Embeddedness and Entrenchment of Managers
The Effects of Privatization on TFP Growth and Capital
Adjustments
Labour Turnover of Japan-Affiliated Companies inShanghai
Generation and Resolution of Asymmetric Information in
Human Resource Management –In the Cases of Job
Rotation in Two Retailers in JapanMarket Liquidity around Quarterly Earnings
Announcements
Lender’s Risk Incentive and Borrower’s Risk Incentive(in Japanese)Date
11／2002(in Japanese)

11／2002
11／2002(in Japanese)

12／2002

12／2002(in Japanese)(in Japanese)(in Japanese)

12／2002
1／20032／20032／2003(in Japanese)

3／2003(in Japanese)

3／20033／2003(in Japanese)

3／2003

Determinants of Small Business Loan Approval:
Evidence from Japanese Survey after 1997 Financial
CrisisVoluntary Corporate Disclosure and the Cost of Debt:(in Japanese)
The Case of Quarterly Reporting
Corporate Financial Strategy and Stock Price Behavior
in a Noise Trader Model with Limited Arbitrage
Two Modes of Economic Organization in the Duality (in Japanese)
Principle and Asymmetric Personal Information
Why Does Book Building Drive Out Auction Methods of
IPO Issuance? Evidence from Japan (Revised version)
Banking Relationships and Accessto Equity Capital Markets:
Evidence from Japan’s Main Bank System

3／20034／20034／20035／20035／20035／2003