What Does an Underwriter Do?

Underwriters are the financial institutions that bring securities to market, whether through initial public offerings (IPOs), debt issuances, or other capital raises. They stand between companies seeking capital and the investors who supply it, and they run the pricing, marketing, and distribution of the securities. Their names are on the cover of every prospectus, which makes an underwriter's deal history one of the more useful public signals about an offering.

What Is an Underwriter?

An underwriter is a financial institution, typically an investment bank, that helps companies and other entities raise capital by issuing and selling securities. Underwriters assume financial risk by agreeing to purchase securities from issuers and then reselling them to investors, essentially guaranteeing that the issuer will receive the intended capital.

Primary Functions

• Risk Assessment: Evaluating the financial health and prospects of the issuing company
• Pricing: Determining the appropriate price for the securities being offered
• Marketing: Promoting the offering to institutional and retail investors
• Distribution: Managing the sale and allocation of securities to investors
• Stabilization: Supporting the security's price in the immediate post-offering period

Types of Underwritten Securities

The Underwriting Process

Pre-Marketing Phase

• Due Diligence: Comprehensive review of company financials, operations, and prospects (see what is due diligence)
• Registration Statement: Preparation of SEC filing documents (S-1 for IPOs)
• Legal Review: Coordination with legal counsel on disclosure and compliance
• Financial Modeling: Analysis of company valuation and comparable transactions
• Syndicate Formation: Assembly of underwriting syndicate for larger offerings

Marketing and Roadshow

• Investor Presentations: Creation of pitch materials and management presentations
• Roadshow Management: Organizing meetings with institutional investors
• Book Building: Collecting indications of interest from potential investors
• Price Discovery: Gauging investor demand to inform final pricing
• Media Relations: Managing public communications and analyst coverage

Pricing and Allocation

Types of Underwriting Arrangements

Firm Commitment Underwriting

• Risk Assumption: Underwriter purchases entire offering from issuer
• Price Guarantee: Issuer receives agreed-upon proceeds regardless of market reception
• Resale Risk: Underwriter bears risk of not selling all securities
• Most Common: Standard structure for most public offerings

Best Efforts Underwriting

• No Purchase: Underwriter does not buy securities from issuer
• Sales Agent: Acts as agent to sell securities on behalf of issuer, much like a placement agent in a private deal
• No Guarantee: Issuer only receives proceeds from actual sales
• Lower Risk: Underwriter has reduced financial exposure

All-or-None Underwriting

• Contingent Deal: Offering only proceeds if entire issue is sold
• Escrow Arrangement: Proceeds held in escrow until full subscription
• Refund Provision: Investors refunded if offering is not completed
• High Threshold: Used when minimum proceeds are essential

Standby Underwriting

Underwriter Compensation

Underwriting Spread

The primary compensation for underwriters is the underwriting spread - the difference between the price paid to the issuer and the public offering price:

• Management Fee: Roughly 20% of the spread, paid to the managing underwriters
• Underwriting Fee: Roughly 20% of the spread, paid to syndicate members for taking on risk
• Selling Concession: Roughly 60% of the spread, paid to whichever firm sells the shares
• Typical Range: About 7% of proceeds for mid-sized US IPOs, lower for very large deals and much lower for investment-grade debt

Additional Fees

• Advisory Fees: Separate fees for strategic advice and positioning
• Expense Reimbursement: Issuer covers due diligence and legal costs
• Over-allotment Options: Additional fees from greenshoe exercises
• Warrant Coverage: Warrants provided as additional compensation

Fee Structure Example

Underwriters in SPAC IPOs

SPAC IPOs use a distinctive fee structure. The underwriting discount (commonly about 5.5% of the trust) is split into an upfront portion, often 2%, paid at the IPO, and a deferred portion, often 3.5%, held in the trust and paid only if the SPAC completes a business combination. Underwriters frequently also advise on the merger itself. When the SEC adopted its SPAC rules in 2024, it declined to adopt a proposed rule that would have automatically treated SPAC IPO underwriters as underwriters of the later de-SPAC, but it said that a party who facilitates a de-SPAC can still be a statutory underwriter with the liability that carries. After the rules were proposed in 2022, several large banks stepped back from SPAC work and waived deferred fees on pending deals. The S-1 shows the split, and the embarc list of SPAC underwriters shows each firm's deal history, from bulge-bracket banks like Citigroup to SPAC specialists like EarlyBirdCapital and Cantor Fitzgerald. For how underwriters differ from the sponsors who form SPACs, see SPAC sponsor vs. underwriter.

Underwriting Syndicate Structure

Lead Underwriter (Book Runner)

• Primary Role: Manages the entire offering process
• Largest Allocation: Takes the largest share of the underwriting commitment
• Decision Authority: Makes final decisions on pricing and allocation
• Regulatory Responsibility: Primary interface with regulators

Co-Lead Managers

• Shared Responsibility: Assist with marketing and distribution
• Significant Allocation: Smaller commitments than the bookrunners
• Investor Access: Bring their institutional investor relationships
• Regional Coverage: May provide geographic or sector expertise

Syndicate Members

• Distribution Focus: Primarily responsible for selling to their clients
• Smaller Allocations: Commitments listed share by share in the prospectus
• Specialized Reach: Access to specific investor bases
• Lower Commitment: Reduced financial and reputational risk

Selling Group

Risk Management and Due Diligence

Financial Analysis

• Historical Performance: Review of past financial statements and trends
• Business Model: Analysis of revenue sources and profitability drivers
• Market Position: Competitive analysis and market share assessment
• Growth Prospects: Evaluation of future business opportunities

Legal and Regulatory Review

• Disclosure Compliance: Ensuring adequate disclosure of material information
• Legal Issues: Identifying potential litigation or regulatory risks
• Corporate Structure: Review of ownership and governance structures
• Intellectual Property: Assessment of IP assets and potential infringement

Market Conditions Assessment

Post-Offering Responsibilities

Price Stabilization

• Aftermarket Support: Buying shares to support price if needed
• Over-allotment Option: Using greenshoe to manage supply/demand
• Penalty Bids: Reclaiming selling concessions from flippers
• Time Limits: Stabilization limited to 30 days typically

Research Coverage

• Analyst Initiation: Beginning research coverage post-offering
• Quiet Period: FINRA Rule 2241 bars research from participating underwriters for 10 days after an IPO
• Ongoing Coverage: Regular research reports and investor updates
• Conflict Management: Managing conflicts between banking and research

Lock-Up Agreements

The underwriters also hold the lock-up agreements that keep insiders from selling, typically for 180 days after an IPO, and can release shares early at their discretion.

Ongoing Relationship

• Follow-on Offerings: Potential for future capital raising mandates
• M&A Advisory: Strategic advice on mergers and acquisitions
• Market Making: Providing liquidity in secondary trading
• Corporate Access: Facilitating investor meetings and conferences

Selecting an Underwriter

Key Selection Criteria

• Track Record: Success with similar companies and transactions
• Distribution Capability: Quality and breadth of investor relationships
• Sector Expertise: Understanding of company's industry and business model
• Research Quality: Strength of equity research and analyst coverage
• Fee Structure: Competitive pricing and fee arrangements

Beauty Contest Process

Negotiation Points

• Fee Structure: Underwriting spread and additional fees
• Syndicate Allocation: Size and composition of underwriting group
• Marketing Strategy: Approach to investor marketing and roadshow
• Research Commitment: Analyst coverage and research quality
• Aftermarket Support: Commitment to price stabilization and support

Regulatory Environment

SEC Oversight

• Registration Requirements: The SEC reviews registration statements and declares them effective, but does not approve the merits of an offering
• Disclosure Standards: Ensuring adequate investor disclosure
• Selling Restrictions: Rules governing marketing and sales activities
• Waiting Period: Limits on offers between filing and effectiveness, and no sales until the registration statement is effective

Industry Regulations

• FINRA Rules: Self-regulatory organization oversight
• Capital Requirements: Minimum capital and net capital rules
• Conflict Management: Chinese walls and conflict of interest policies
• Customer Protection: Regulation Best Interest for retail recommendations, plus best execution requirements

Conclusion

Underwriters play a vital role in capital markets by facilitating the flow of capital from investors to companies and other issuers. Their expertise in pricing, marketing, and risk management helps ensure successful capital raising while providing important protections for both issuers and investors.

For companies considering public offerings, selecting the right underwriter is crucial for achieving optimal results. The underwriter's reputation, capabilities, and commitment can significantly impact the success of an offering and the company's ongoing relationship with public markets.

For investors, the “Underwriting” section of the prospectus is worth reading: it names every syndicate member and its share commitment, the spread, the greenshoe, the lock-ups, and any warrants or other compensation paid to the banks.

Explore the Data

• SPAC underwriters, with the SPAC IPOs each has underwritten
• IPOs and their filings
• SPACs searching for a target