Investment banking firms may play different roles in the context of new securities issuance. They may perform advisory functions, may be in charge of the distribution of securities, or may act as underwriters. The term underwriting refers to the function of buying new securities directly from the issuer and bearing the risk of selling the securities purchased at a lower price. There are two basic types of underwriting arrangements. An underwriter guarantees the purchase of all the excess stocks at a set offer price. In the U.S.A., such an agreement is called firm commitment agreement. Alternatively, the investment banker may agree to use all its best efforts and its expertise to sell an issue, but make no guarantee to sell the entire issue at the sell price. In U.S.A., this kind of arrangement is referred to as best efforts. The gross spread, also called underwriter discount, represents the fee earned by the underwriters and it is calculated as the difference between the price paid by the underwriter to the issuer and the price offered to the public. The fee should compensate the firm from the risk it faces of selling the securities at a lower price. However, underwritten transactions often entail relevant risks of capital loss. For this reason, investment banking firms generally share these risks by underwriting through syndication; that is to say, the issuer gives a mandate to set up the issue not to a single underwriter, but to a group of counterparties. In order to reach the highest number of investors, the lead underwriter can also form a selling group involving a number of firms that are not included in the syndicate. Alternative techniques to the underwriting via syndicated counterparties are the bought deal for the underwriting of bonds, the auction process and the pre-emptive rights offering.

FABOZZI F., MODIGLIANI F. and JONES F. (2010), Foundation of Financial Markets and Institutions, Pearson International Edition.

Editor : Bianca GIANNINI


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