What Is Agreement among Underwriters?
An agreement among underwriters is a contract entered into by the various members of an underwriting syndicate in a securities offering. This crucial document formalizes the rights and obligations of each syndicate members, outlining how responsibilities, risks, and profits are allocated among the participating investment banks. It is a core component within the Capital Markets and Investment Banking categories, specifically related to the primary market issuance of new equity securities or debt securities. The agreement ensures a coordinated effort in bringing a new issue to market, especially when the size or complexity of the offering is substantial enough to require multiple firms to work together.
History and Origin
The practice of forming underwriting syndicates and, by extension, agreements among underwriters, evolved as financial markets grew and the scale of capital raising by corporations increased. Prior to modern regulations, securities issuance was less transparent, leading to practices that sometimes exploited the public. The early 20th century saw the development of more formalized structures in response to market needs and later, regulatory mandates.
A significant turning point in the regulation of securities offerings in the United States was the enactment of the Securities Act of 1933. This landmark legislation, often referred to as the "truth in securities" law, aimed to provide investors with financial and other significant information concerning securities offered for public sale and to prohibit deceit and misrepresentations in the sale of securities.8 This act, along with subsequent regulations, formalized the responsibilities of underwriters and mandated disclosures, indirectly shaping the structure and content of agreements among underwriters.
Further evolution occurred with the introduction of mechanisms like shelf registration under SEC Rule 415. Adopted permanently in 1983, Rule 415 allows issuers to register securities that they intend to sell over a period of time, rather than all at once.7 This flexibility impacts how syndicates are formed and how their agreements are structured, as it permits offerings to be brought to market more rapidly. The increased speed and flexibility offered by Rule 415 have been noted to potentially impact the ability of underwriters to perform traditional due diligence, leading to ongoing discussions within the financial and legal communities about the balance between efficiency and investor protection.6
Key Takeaways
- An agreement among underwriters is a contract that coordinates the activities of multiple investment banks in a securities offering.
- It outlines the responsibilities, liabilities, and compensation for each member of an underwriting syndicate.
- This agreement helps to distribute the financial risk associated with a large public offering across several firms.
- It is distinct from the primary underwriting agreement between the issuer and the lead underwriter.
- The agreement is critical for ensuring a smooth and efficient distribution of new securities to investors.
Interpreting the Agreement among Underwriters
The agreement among underwriters serves as the operational blueprint for the syndicate. It details the specific roles each member plays, from the lead underwriter, who typically manages the offering and has the largest stake, to co-managers and other syndicate members. The agreement clarifies the percentage of the issue each underwriter is responsible for selling and their share of the total underwriting spread or fees.
Crucially, it also defines the terms for reallowances, which are fees paid to other broker-dealers who assist in selling the securities but are not direct members of the syndicate. Understanding this agreement is vital for all parties, as it dictates the mechanics of distribution, the sharing of liabilities (such as for unsold securities), and compliance with regulatory requirements. It ensures that all syndicate participants are aware of their commitments and how the offering will be managed collaboratively.
Hypothetical Example
Imagine "Tech Innovations Inc." decides to launch a substantial initial public offering (IPO) to raise $500 million. Given the size of the offering, Tech Innovations Inc. selects "Global Financial Services" as its lead underwriter. Global Financial Services, in turn, invites "Capital Growth Bank" and "Market Makers Corp." to join as co-managers to form an underwriting syndicate.
Before proceeding, Global Financial Services drafts an agreement among underwriters. This agreement specifies that Global Financial Services will take on 50% of the offering responsibility, while Capital Growth Bank and Market Makers Corp. will each take 25%. The agreement details how expenses related to marketing and distribution will be shared, the protocol for handling over-allotment options (greenshoe options), and the process for pricing the securities. It also outlines the liability for any unsold shares, ensuring that if the IPO does not sell out, each firm is accountable for its agreed-upon portion. This clear delineation of roles and responsibilities through the agreement enables the syndicate to work cohesively to bring Tech Innovations Inc.'s shares to market.
Practical Applications
The agreement among underwriters is a fundamental document in large-scale securities offerings, particularly those involving initial public offerings and significant secondary offerings. Its primary practical application is to formalize the cooperative effort required when a single investment bank cannot absorb the entire risk allocation or manage the distribution of a massive issue.
It dictates the operational flow within the syndicate, from sharing the prospectus and marketing materials to managing the book-building process and allocating shares to investors. This agreement is crucial for ensuring regulatory compliance, especially with SEC requirements concerning disclosures and the sale of securities. Underwriters must adhere to strict rules, including providing accurate and complete information to investors in the prospectus.5 The agreement among underwriters therefore serves as a framework for efficient coordination, allowing each firm to leverage its network and expertise while mitigating individual risk exposure by sharing the undertaking. By pooling resources and expertise, syndicates aim to access a broader investor base and ensure successful distribution.4
Limitations and Criticisms
While the agreement among underwriters is essential for managing large public offerings, it is not without its limitations and potential criticisms. One primary concern relates to the complexity of coordination among multiple parties. Disagreements can arise concerning marketing strategies, pricing, or the allocation of shares, which can potentially delay or complicate the offering process.
Another limitation stems from the shared liability inherent in these agreements. If a securities offering is undersubscribed, syndicate members may be left holding unsold securities, exposing them to market risk and potential losses. This shared risk, while a benefit in spreading exposure, means that the success of each syndicate member is tied to the collective performance. Furthermore, some critics argue that the syndicate structure, and the agreements that govern them, can lead to reduced flexibility for individual firms and potential conflicts of interest, especially if a bank has pre-existing relationships with certain investors or the issuer that may influence allocation decisions.3 The focus on rapid execution, particularly in the context of shelf registration under Rule 415, has also drawn scrutiny regarding the thoroughness of due diligence conducted by underwriters.2
Agreement among Underwriters vs. Underwriting Agreement
While often used interchangeably by the public, the agreement among underwriters and the underwriting agreement are distinct legal contracts in a securities offering.
The underwriting agreement is the primary contract signed between the issuer (the company issuing the securities) and the lead underwriter (or the entire syndicate collectively, if they are represented as one party). This agreement outlines the core terms of the offering, including the type and number of securities being sold, the price at which the underwriters will purchase them from the issuer, and the gross spread (the difference between the price paid to the issuer and the public offering price). It also contains representations and warranties from the issuer, covenants, indemnification clauses, and conditions for closing the transaction.1
In contrast, the agreement among underwriters is an internal contract solely among the members of the underwriting syndicate. It formalizes the relationship and division of labor between the lead underwriter and the other syndicate members. This agreement details how the syndicate will manage the distribution of securities, the allocation of responsibilities and liabilities, and the sharing of the underwriting fees. It addresses operational aspects, such as how the offering will be marketed, how orders will be collected, and the specific portion of the securities each syndicate member is obligated to sell. Therefore, the underwriting agreement dictates the terms between the issuer and the underwriters, while the agreement among underwriters governs the working relationship among the underwriters themselves.
FAQs
What is the primary purpose of an agreement among underwriters?
The primary purpose of an agreement among underwriters is to define the roles, responsibilities, liabilities, and compensation of each member within an underwriting syndicate. It ensures a coordinated effort in distributing new securities.
Who are the parties involved in an agreement among underwriters?
The parties involved are the different investment banks that form the underwriting syndicate, including the lead underwriter and other participating co-managers or syndicate members. The issuer of the securities is not a party to this specific agreement.
How does this agreement manage risk in a securities offering?
The agreement among underwriters helps manage risk allocation by clearly distributing the responsibility for selling a portion of the securities to each syndicate member. This diversification of risk reduces the individual exposure of any single firm, especially in large offerings where the potential for unsold securities is significant.
Is the agreement among underwriters a public document?
No, the agreement among underwriters is typically an internal contract among the syndicate members and is not usually filed publicly with regulatory bodies like the SEC. However, the overarching underwriting agreement between the issuer and the syndicate, which the agreement among underwriters supports, is often an exhibit to the issuer's registration statement.