Underwriting

Investment Banking
 Underwriting
Underwriting is defined in the SEBI guidelines as an agreement
with or without conditions to subscribe to the securities of a body
corporate when the existing shareholders of such body corporate or
the public do not subscribe to the securities offered to them.
The commitment has to be documented through an underwriting
agreement between the company and the underwriter
Its an investment banking service of taking contingent obligation to
subscribe to an agreed number of securities in an issue if such
securities are not subscribed to by the intended investors
The underwriter job is to market the underwritten securities to
investors and procure subscriptions for such securities
Its a fee based service
 Underwriting Commission
The fee paid by the issuer
It is the percentage of the value of underwriting i.e.
Total no. Of securities underwritten multiplied by the
offer price per security
Brokerage and UC are different
Brokerage is a marketing commission for dealing in
shares or for procuring subscription
Underwriting commission is compensation for taking
underwriting risk behind procuring subscription
5% with respect to shares and 2.5% wrt debentures
under Companies Act section 76
 Underwriting agreement
Amount being underwritten
Provision for Sub underwriting
Computation of devolvement
Procedure for effecting or discharge of
underwriting obligations
Right to receive commission
Statutory declarations
 Regulatory Framework
Undertaken by SEBI (underwriters )Rule
1993and SEBI Regulations (underwriters)
1993
Can be taken by commercial banks, mutual
funds , SEBI stock brokers ... Except for
merchant bankers who need to register as
underwriters with SEBi
Experience, infra, .. Check page 9.3
 Devolvement
Refer to the exercise on excel.
 Fixed Price Offers
Underwriting can be avoided
Company can save underwriting commission
Company pays only brokerage for marketing
which is lower than underwriting commission
Company & Lead Manager finalize the
requirement of underwriting
If the issue is underwritten the Lead Manager
undertakes a minimum obligation of 5% of total
underwritten amount or Rs 25 lakh whichever is
lower
 Book Build Offers
Mandatory Underwriting is compulsory in book
built offers for NPO
If 75% is through book building & 25% through
QIB underwriting required only for 75%
If 50% is through QIB mandatory underwriting is
not required
The book runner assumes the responsibility for
overall underwriting
To spread risk of devolvement, underwriting
obligation is shared by book runners and book-
runner in charge.
 To Underwrite or Not?
Risk factors include
Devolvement probability
Devolvement quantum
Capital loss from devolved securities
Capacity to procure depends upon the
distribution network and
investor base of the underwriter &
marketability of an issue
 Safety Net
The arrangement would be provided to the
investors with a buy back facility for the
securities subscribed by them in the public
issue at the issue price
The investor would choose to exercise the
safety net only if the market price falls below
the offer price in post issue trading
This arrangement is for the small investors
 Safety net continues..
SEBI has set the regulations that apply to the safety net
arrangement.
Any safety net scheme or buy back arrangements of shares
proposed in any public issue shall be finalised by issuer company
with the lead merchant banker in advance and disclosed in the
prospectus
Such buy back or safety net arrangement shall be made available
only to all original resident allottees
Such buy back or safety net facility shall be limited up to a
maximum of 1000 securities per allottee and the offer shall be valid
at least for a period of 6 months from the date of despatch of
securities
The financial capacity of the person making available buy back or
safety net facility shall be disclosed in the draft prospectus
 Green shoe Option
It is prevalent under the US regulations that allow issuer
companies to issue additional securities in a public offer
In public offers wherein there is huge demand for securities
the SEC regulations permit issue of additional securities at
the issue price.
Green shoe option can be exercised up to an additional
15% of the issue size within 30 days from the effective date
The additional securities should be used to cover
allotments to customers
The Underwriters take a call on exercising the green shoe
option judging the response to the issue
The prospectus has to disclose that the green shoe option
be used by the Underwriters
Bought out Deals