Ownership dispersion, costly information, and IPO underpricing

We develop an explanation for IPO underpricing in which the issuer's demand for ownership dispersion creates an incentive to underprice. Promoting oversubscription allows broad initial ownership, which in turn increases secondary-market liquidity. Increased liquidity reduces the required return to investors. Broad initial ownership, however, requires an increase in investor-borne information costs. These information costs are offset through initial underpricing. Empirical results are consistent with initial underpricing reflecting the level of ownership dispersion.