Trade secret laws and initial public offering underpricing

Abstract

This paper examines the impact of trade secret laws on the underpricing of initial public offerings (IPOs) in the United States, where we focus on the Uniform Trade Secret Act and/or the inevitable disclosure doctrine. Given that trade secret laws help firms protect their know-how in the form of trade secrets, we propose that trade secrets protected by these laws may result in increased corporate opacity, leading to greater IPO underpricing. Empirically, the average first-day returns of IPOs in states with trade secret laws are 12.7% higher than those in states without such laws. Using the information disclosed in the 10-K report on whether the firm owns trade secrets, we suggest that the existence of trade secret laws enhances the protection effect of firm maintenance of trade secrets, which leads to greater IPO underpricing. Further analyses show that the effect of trade secret laws is reinforced for IPO firms operating in complex industries, IPO firms with R&D investments, and large IPO firms, suggesting that trade secret laws increase the difficulties investors face in assessing the intrinsic value of such firms.