What it means
When a company or government issues a large amount of stock or bonds, it needs firms that are prepared to put their own capital behind the deal. Those firms form the underwriting group.
Each member signs up for a stated percentage of the issue and takes responsibility for it. The lead manager, usually the bank with the closest relationship to the issuer, forms the group, negotiates the terms and runs the order book.
Co-managers take sizeable shares, while smaller members take modest ones. The more members there are, the lighter each bank's burden and the wider the investor reach, although a very large group can be slow to coordinate.
How liability works depends on the type of account. In a divided account each member is responsible only for its own share of any unsold securities, whereas in an undivided account members are collectively responsible for the unsold remainder in proportion to their participation.
The choice affects how much risk each bank actually carries if the market turns. Group members earn the underwriting fee and, if they sell securities themselves, a selling concession.
The lead earns a management fee as well. The agreement among underwriters sets all of this out, and it also covers price stabilisation and the duration of the group.
For issuers the group is a source of certainty: if the deal is firm commitment, the banks buy the securities whether or not investors do. For regulators, it is also a way to ensure that the risk of a big capital raise is spread across several well-capitalised firms.
Pricing and timing are managed by the group together. During the offer period the lead may buy securities in the market to stop the price falling below the offer price, an action known as stabilisation.
Members are bound by the agreement not to sell below the offer price until the lead releases the group.
In practice
Real-world examples.
Example
An infrastructure company issues $600,000,000 of bonds, and an underwriting group of six banks is formed. The lead bank takes 35% of the commitment, which is $210,000,000, and the remaining banks share the rest.
Example
A technology firm lists on a stock exchange. The underwriting group sells all but 3% of the shares on day one, and the members divide the unsold shares according to their commitments.
Example
A national government sells treasury notes through a group of primary dealers who are committed to bid for the issue. The dealers then pass the notes on to pension funds, insurers and overseas investors.
Formula
Calculation
Member commitment = Total issue size x Member's percentage share
A $200,000,000 bond issue is underwritten by seven banks. The lead takes 40%, two co-managers take 20% each, and four other members take 5% each.
Lead commitment = $200,000,000 x 40% = $80,000,000
Each co-manager = $200,000,000 x 20% = $40,000,000
Each other member = $200,000,000 x 5% = $10,000,000
Check: 40% + 20% + 20% + (4 x 5%) = 100%, and in dollars $80,000,000 + $40,000,000 + $40,000,000 + (4 x $10,000,000) = $200,000,000.
The account type changes who pays if part of the issue is unsold. Suppose $10,000,000 is left over, which is 5% of the issue. In a divided account the member responsible for that unsold part carries it alone, whereas in an undivided account the lead bears 40% x $10,000,000 = $4,000,000, each co-manager bears 20% x $10,000,000 = $2,000,000 and each smaller member bears 5% x $10,000,000 = $500,000, which adds up to the full $10,000,000.Case study
Seen in the real world.
Ashgrove Holdings is an illustrative, fictional food company that raised $120,000,000 of new equity through an underwriting group of four fictional banks. The lead bank took 50% and the other three took roughly 17% each.
Demand was strong in Europe but weak in Asia, and one of the smaller banks, which had expected to sell mainly in Asia, found itself with unsold shares. Because the group was set up as a divided account, that bank had to hold its own unsold amount and could not push it onto the others.
The illustrative outcome shows why the account type matters: the same market disappointment lands on a single member under a divided account but is shared across the group under an undivided one. The lead bank later changed its approach to future deals, allocating more selling responsibility to firms with strong Asian networks.
Watch out
Common mistakes.
- Using underwriting group and selling group as if they were the same thing, when only the underwriting group takes risk.
- Assuming the lead manager always carries the largest unsold risk, when liability depends on the type of account and each member's share.
- Believing the fee is only the selling concession, when the lead earns a management fee and members earn an underwriting fee.
Questions
People also ask.
What is the difference between an underwriting group and a syndicate?
In practice the terms are used almost interchangeably for the group of banks that commits to buy an issue, though syndicate is the more common word in loan and bond markets.
Who decides each member's share?
The lead manager, in agreement with the issuer, sets the allocation, which is written into the agreement among underwriters.
What is a divided versus undivided account?
In a divided account each bank answers only for its own unsold securities, while in an undivided account unsold securities are shared in proportion to commitments.
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