Underwriter Syndicate What it is How it Works
Underwriter Syndicate: What it is, How it Works
What Is an Underwriter Syndicate?
An underwriter syndicate is a group of investment banks and broker-dealers who sell new offerings of securities to investors. The syndicate is formed and led by the lead underwriter for a security issue.
When an issue is too large for a single firm to handle, an underwriter syndicate is formed to use the resources of all the firms and spread out the risk. The syndicate is compensated by the underwriting spread, which is the price difference between what the issuer is paid and what is received from investors and other broker-dealers.
An underwriter syndicate is also known as an underwriting group, banking syndicate, or investment banking syndicate.
Key Takeaways
-An underwriter syndicate is a group of investment banks and broker-dealers formed to sell new securities.
-The reason for an underwriter syndicate is to pool the resources of multiple firms when an issue is too large for one firm.
-The syndicate consists of a lead underwriter and other participating members.
-The lead underwriter receives the largest portion of the issue and deals with regulatory bodies.
-The profit or loss for the syndicate depends on how the new stock performs.
Understanding an Underwriter Syndicate
Under the firm commitment engagement, members of an underwriter syndicate are required to buy shares from the company to sell to investors. This removes risk for the issuing company since it is paid upfront and does not have to worry about selling the shares.
The underwriter syndicate takes on the risk by committing to sell the full issue. If demand is not as anticipated, participants may have to hold shares in their inventory, exposing them to potential price declines. The lead underwriter receives a larger portion of the underwriting spread and fees.
The process may be compared to best efforts underwriting, where the underwriter agrees to do their best to sell as many shares as possible.
The Process of an Underwriter Syndicate
Members of an underwriter syndicate sign an agreement that sets forth the stock allotment and management fee, among other rights and obligations.
The lead underwriter runs the syndicate and allocates shares to each member. The lead underwriter also determines the timing and offering price and fulfills regulatory requirements.
The underwriter syndicate must obtain necessary financial information and determine the growth prospects of the firm to determine the offering price. A closed bidding process is typically held among syndicate members to arrive at the price of the initial public offering (IPO).
For popular IPOs, the demand for shares may exceed supply, resulting in an oversubscribed IPO. This demand can only be met once shares begin trading on the exchange, potentially leading to price swings.
Investors participating in IPOs face significant risk, whether receiving shares as a client of an investment bank or buying and selling shares once they begin trading.
