Ch. 6: Security Offerings 307
Fig. 3. Illustration of the flotation method pecking order. Source:Eckbo and Norli (2004). The horizontal axis
plots shareholder takeupk. The vertical axis plots total expected issue costC(k)for each of three alternative
issue strategies.C(k)incorporates the issuer’s participation constraint. The steepest line isC(k)for the “move
straight to uninsured rights and issue” strategy{ur}. The middle line isC(k)for the strategy “start with
standby rights, and if rejected try private placement, and if rejected again, sell the issue using uninsured
rights”{sr, pp, ur}. The third and most horizontal line isC(k)for the “start with a private placement, and if
rejected try a standby rights, and if rejected again, sell the issue using uninsured rights” strategy{pp, s r, ur}.
The critical values ofkare denotedkppandksr. The optimal issue strategy is one that minimizesC(k)
conditional onk, i.e., the inner envelope of the three separate cost curves. Thus, it is an equilibrium for all
issuers with shareholder takeup less than the critical value ofkpp= 0 .51 to attempt a private placement first.
Whenkis betweenkpp= 0 .51 andksr= 0 .62, the equilibrium strategy is to attempt a standby rights offering
first, while all issuers withkgreater thanksr= 0 .62 go directly to the uninsured rights offer.
issue” strategy{ur}. The middle line is for the strategy “start with standby rights, and
if rejected try private placements, and if rejected again issue using uninsured rights”
{sr, pp, ur}. The third and most horizontal line is for the strategy “start with private
placement, and if rejected try standby rights, and if rejected again issue using uninsured
rights”{pp, s r, ur}. The critical values ofkthat separates these strategies are denoted
kppandksr. The optimal issue strategy is one that minimizesC(k), i.e., the inner en-
velope of the three separate cost curves. Thus, inFigure 3, it is an equilibrium for all
issuers with shareholder takeup less than the critical value ofkpp= 0 .51 to attempt a
private placement first. Whenkis betweenkpp= 0 .51 andksr= 0 .62, the equilibrium
strategy is to attempt a standby rights offering first, while all issuers withkgreater than
ksr= 0 .62 go directly to the uninsured rights offer.
A central implication of this pecking order is that the probability of an issuer switch-
ing from rights to underwritten offer increases askdecreases even if a rights offer is