Series 79: 7.1.1. Types Of Underwriting Commitments

7.1.1. Types of Underwriting Commitments

As mentioned in the last chapter, the issuer and the investment bank that is to serve as sole or lead underwriter sign a letter of intent once they agree on the terms of their relationship. Among the details outlined in the LOI will be the type of underwriting commitment. Firm commitment underwriting is the most common form of underwriting for large offerings, as well as the most likely to involve a syndicate and the most likely to be a negotiated underwriting. In firm commitment underwriting, the issuer and underwriter agree on a price and the underwriter agrees to buy the entire issue at a discount and then distributes the shares to the public or to retail brokers at the offering price. Because the underwriter is making a “firm commitment” to buy the entire offering, the underwriter assumes the risk of the offering being undersubscribed.

If a firm commitment is provided as a stand-alone agreement—in other words, if the only service the underwriter is providing is the promise to buy any leftover shares at a discount—this is known as standby underwriting, because the underwriter is merely “standing by” if needed. An insured rights offering is an example of standby underwriting. A standby underwriting agreement must be put in writing before the offering begins, or it may run afoul of FINRA’s New Issue Rule.

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