There is mounting evidence that countries’ institutional frameworks play an important role for access to finance and equity valuations (e.g., La Porta et al, 1997 and 2002). In light of this evidence, cross-listing in the U.S. has been suggested as a way for firms from countries with poor institutions to privately overcome these shortcomings (Coffee, 1999; Stulz, 1999). Consistent with this notion, several studies document that cross-listings have significant effects on firms’ market values, using either event-study returns (e.g., Foerster and Karolyi, 1999; Miller, 1999; Lee, 2004) or comparisons with firms that are not cross-listed (e.g., Doidge, 2004; Doidge et al., 2004, 2008a). This evidence suggests that U.S. cross-listings offer substantial benefits. However, the sources of these benefits are not yet well understood (e.g., Leuz, 2003; Doidge et al., 2004).
One important question is whether and to what extent cross-listing in the U.S. affects firms’ cost of capital. The bonding argument suggests that a U.S. cross-listing strengthens outside investor protection making it easier for firms to raise external finance (e.g., Reese and Weisbach, 2002; Benos and Weisbach, 2004; Doidge et al., 2004). Moreover, listings on NASDAQ, NYSE or AMEX require foreign firms to comply with SEC disclosure rules, which typically imply a substantial increase in disclosure and could manifest in a lower cost of capital (e.g., Verrecchia, 2001; Lambert et al., 2007).Similarly, U.S. cross-listings can improve investor recognition and enlarge a firm’s investor base (e.g., Merton, 1987; Foerster and Karolyi, 1999).
A potential concern about the documented valuation effects of U.S. cross-listings is that they merely reflect concurrent changes in firms’ growth opportunities that do not stem from cross-listing per se. That is, firms may seek cross-listings when they experience an expansion in their growth opportunities, but the decision is unrelated to bonding and the growth expansion does not reflect a reduction in the cost of capital due to cross-listing. Moreover, Foerster and Karolyi (1999 and 2000) and Miller (1999) provide evidence of long-run underperformance after cross-listing in the U.S., which raises the question of whether the documented valuation benefits are in fact sustained in the long-run. Similarly, the debate about delistings from U.S. exchanges and the costs of the Sarbanes-Oxley Act (SOX) questions the existence of sizeable cross-listing benefits, such as a reduction in the cost of capital (Zingales, 2007; Hostak et al., 2007). Thus, it is still an open and topical question whether U.S. cross-listings persistently reduce the cost of capital.
To shed light on these issues and the mechanism by which cross-listings affects firms’ valuations, we analyze ex-ante estimates of firms’ cost ofequity capital implied by market prices and analyst forecasts. This approach explicitly accounts for changes in the market’s growth expectations around cross-listings. It also allows us to separately gauge the magnitude of these cash flow (or growth) effects on firms’ valuations.
Our analysis is based on a large panel of more than 40,000 firm-year observations from 45 countries over the period from 1990 to 2005. We collect a comprehensive sample of 1,097 U.S. cross-listings and classify them into exchange listings, over-the-counter (OTC) listings and private placements, accounting for the different regulatory consequences. For an exchange listing, firms have to register with the SEC and file Form 20-F, which requires extensive disclosures and a reconciliation of foreign financial statements to U.S. GAAP. In addition, firms are subject to SEC oversight and bear the threat of U.S. securities litigation. Cross-listings in the OTC market do not require a 20-F filing, but a registration statement using Form F-6 and home-country disclosures to the SEC. They are also subject to Rule 10b-5 and the Foreign Corrupt Practices Act, under which most SEC enforcement actions as well as private class action suits are brought (Karpoff et al., 2008). Private placements under Rule 144A do not require SEC registration or any additional (public) disclosures. Given these regulatory consequences, we hypothesize that, if cross-listings reduce firms’ cost of capital, the effects are strongest for exchange listings, and it is not clear that private placements should experience any reduction.
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Cost of Capital Effects and Changes in Growth Expectations around U.S. Cross-Listings
