What is an Equity Syndicate?
An equity syndicate refers to a group of investors who come together to determine the price and sell new IPOs to the public. The syndicate takes various considerations such as risk and the financial status of the company when deciding on the price of the floated IPO. Equity syndicates are generally formed when the stock issue is too large to be managed by a single firm. Therefore, combining the efforts of several firms helps sell the new offering of shares quickly and completely.
The equity syndicate is headed by a lead underwriter who is responsible for directing the initial public stock offering. The typical members of an equity syndicate are the senior executives of investment banks. The members’ profit from the underwriting spread. This is the price difference between the price paid to the issuer and the public selling price.
How an Equity Syndicate Works
Since the equity syndicate members are committed to selling all the stocks on offer, they must buy shares from the issuer and sell them to the public. The practice subjects them to the risk of price decline. They mitigate this risk by spreading out the risk among all members of the syndicate.
Some members of the syndicate may receive a higher number of shares, and therefore, higher proportions of the underwriting spread. To avoid any disagreements about the sharing method, members of the syndicate usually sign an agreement that indicates the number of stocks allocated, fees, and their rights and obligations.
Price vs. Demand of the IPO
Once the IPO’s been floated and made public, there tends to be a higher demand for the stocks at the onset. In some cases, the demand for shares may exceed the supply. This will push up prices that investors must pay to become shareholders in the issuers’ company. Initial price increases are often followed by price swings as demand decreases.
The Process of Determining the IPO Price
There are several steps involved when determining the price of an IPO. First, the underwriters seek pricing information from sales personnel who are experienced in IPOs, stock trading, and analyzing growth prospects. The equity syndicate members then convene a meeting where only members are allowed to participate.
The members use a closed bidding process to determine the price of the equity IPO. After the members agree on an IPO price, they are then allocated a percentage of shares before the IPO is floated in the market. Once the IPO is issued in the market, the syndicate members share the profits or losses depending on the changes in the IPO price.
The lead underwriter is an investment bank that is tasked with directing the IPO on behalf of the issuing company. It leads an equity syndicate comprising other investment banks who help in pushing the IPO in the market. Once the offer’s been publicized, the IPO is sold to large customers such as institutional firms and retail clients with substantial capital to invest.
The lead underwriter in the equity syndicate receives a significant proportion of the profits for taking charge of the underwriting process. It is responsible for ensuring that all regulatory requirements by FINRA or the Securities and Exchange Commission are met. The lead underwriter allocates stocks to each member of the syndicate according to their financial capability and preferences. Also, it heads negotiations on the offering price and the timing of the offer.
During the issue, there is usually a lot of hype surrounding the offer, which increases the demand for the stocks. In return, the lead underwriter takes advantage of the excess demand to create an over-allotment, which results in more capital for the client and more commissions for the investment bank leading the issue.
The primary responsibility of the lead underwriter is to determine the final offering price. Setting the right price is important since this will influence how easy or hard it will be to sell the shares to interested investors. The price will also determine how much money the stock issuer and the syndicate obtain from the issue.
We hope you enjoyed reading CFI’s explanation of an equity syndicate. CFI is the official provider of the Financial Modeling and Valuation Analyst (FMVA)™ certification program, designed to transform anyone into a world-class financial analyst. To keep learning and developing your knowledge of financial analysis, we highly recommend the additional resources below: