Underwritten offering: Overview, definition, and example
What is an underwritten offering?
An underwritten offering refers to a type of securities offering in which an underwriter (usually a financial institution or investment bank) assumes the responsibility of purchasing securities from the issuer and then reselling them to the public or institutional investors. The underwriter acts as an intermediary and may either agree to buy the entire offering outright or assist in selling the securities on a "best-efforts" basis. In the case of an underwritten offering, the underwriter typically assumes the risk of not being able to sell the securities, and if this happens, the underwriter may end up holding the unsold securities.
This process is commonly used for Initial Public Offerings (IPOs) and secondary offerings, where companies or organizations raise capital by issuing new shares or bonds to investors.
Why is an underwritten offering important?
An underwritten offering is important because it provides the issuer (usually a company) with a way to raise capital with a level of certainty, as the underwriter agrees to purchase the securities and assumes the risk associated with the offering. The underwriter’s involvement provides valuable support, as they typically have the expertise to price, market, and sell the securities to the right investors.
For the issuer, an underwritten offering is a way to ensure that the capital they seek is raised, even if some of the securities remain unsold. For investors, it provides access to newly issued securities with the assurance that the underwriter has conducted due diligence to ensure the offering is legitimate.
Understanding underwritten offering through an example
Imagine a tech startup, Company A, is planning to go public through an Initial Public Offering (IPO). To raise capital, Company A hires an investment bank, Bank B, to underwrite the offering. Bank B agrees to purchase all the shares in the IPO at a set price and then sell them to the public. This is an underwritten offering, where Bank B assumes the risk of selling the shares.
If the public demand for the shares is lower than expected, and Bank B cannot sell all of the shares, Bank B may need to hold the unsold shares. However, if the offering is successful and the shares are sold at a higher price, Bank B profits from the difference, earning a commission for facilitating the offering.
In another example, Company B, a well-established company, decides to issue additional shares through a secondary offering. Bank C is hired to underwrite the offering. Bank C commits to purchasing the entire offering of shares and reselling them to institutional investors, ensuring that Company B raises the capital it needs while taking on the risk of the sale.
An example of an underwritten offering clause
Here’s how an underwritten offering clause might appear in an agreement:
“The Issuer hereby agrees to issue and sell, and the Underwriter agrees to purchase, the Securities in accordance with the terms outlined in this Agreement. The Underwriter shall use its best efforts to sell the Securities to the public at the offering price set forth in the Prospectus. The Underwriter shall bear the risk of any unsold Securities in accordance with the terms of this Agreement.”
Conclusion
An underwritten offering is a crucial process for companies looking to raise capital through the sale of securities, particularly in IPOs or secondary offerings. The underwriter plays a vital role in purchasing the securities from the issuer and reselling them to investors, assuming the risk of any unsold securities. This process ensures the issuer can secure the desired capital, while also providing investors with access to new investment opportunities. The underwriter's expertise in pricing, marketing, and selling the securities is a key element of the success of an underwritten offering.
This article contains general legal information and does not contain legal advice. Cobrief is not a law firm or a substitute for an attorney or law firm. The law is complex and changes often. For legal advice, please ask a lawyer.