Page 171 - Initial Public Offering - An Introduction to IPO on Wall Street

From the role of the underwriting syndicate in an IPO, it should be clear that underwriters
play a critical role in the success of an IPO. Therefore, it is important to understand the
different types of underwriting involved in an IPO and how crucial they are to the IPO’s
success. This is what will be discussed next.

11. Underwriting
The IPO process involves assessing a company's value, producing public stock, and raising
money through the sale of that stock to buyers. Underwriting is the method by which stock is
issued and sold in an IPO.

Underwriting an IPO is a complicated and costly process that can cost a fortune and take over
a year to complete. Moreover, lawyers, expert analysts, brokers, and bankers are needed to
perform the underwriting. Getting these people on board is a task on its own. The firms that
underwrite IPOs are referred to as investment banks and the SEC registers them all as securities
brokers/dealers.

11.1 The Underwriting Process
When a young business seeks to sell an IPO stock, it approaches an investment bank to handle
the transaction. This is the team of underwriters who will assist in deciding the stock price,
explaining and selling it to potential investors, recording its finances, filing the necessary
legal documentation, and, eventually, launching the IPO on a stock market.

Underwriting is the method used to raise capital—by either equity or debt. Underwriters
(investment banks) can be thought of as intermediaries between businesses and the investing
public. The underwriting process begins with the investment bank and the firm meeting to
discuss the deal.

Typically addressed issues include the amount of money a business will raise, the type of
shares to be sold, and all the information in the underwriting agreement. The agreement can
be formulated in several ways.

For instance, the underwriter promises in a' firm commitment' that a certain amount will be
generated by purchasing the entire offer and then reselling it publicly. However, in a "best
efforts" deal, the underwriter sells shares of the business but does not promise any amount
that will be raised. The two types of underwriting commitments are discussed in a bit more
detail later.

Investment banks are generally reluctant to carry all the risk of an offer. As a result, they
establish a syndicate of underwriters. The syndicate is led by one underwriter and the others
sell a portion of the issue.

It is normal for the syndicate to use a selling group. The selling group members show their
interest in the syndicate but have no assurance that their demand will be fulfilled.
Expressions of interest are subject, partially or fully, to denial or allocations, and the privilege
to close the subscriptions at any time without warning is retained by the leader of the issue.

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