Sorting Things Out: Valuation of New Firms in Uncertain Markets

Materialization of new markets results in variations in company valuations due to information asymmetry compounded with uncertainty. This information asymmetry can lead to adverse selection and moral hazard. However, this information asymmetry can be reduced, to a certain extent, through secondary information sources that provide previously hidden vital information. This investigation determines how secondary indicators, such as corporate governance, work in decreasing the uncertainty factor for investors, so that firms are valued more accurately. The characteristics of corporate governance consist of stock-based incentives, blockholder and institutional ownership, venture capital backing, and board structure. Data were gathered primarily from sources that tracked Internet firms such as Fortune, Motley Fool, and Hoovers. 184 firms that completed an initial public offering (IPO) on or before 1999 were included. Findings reveal that there is a strong positive correlation between market sorting and corporate governance characteristics. It is concluded that firms with opaque secondary indicators are endowed price premiums by the market, since they are perceived to not possess as much risk as competing firms.(SRY)