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3 UNDERWRITING OF SHARES / DEBENTURES notes

UNDERWRITING
 Underwriting is an arrangement / agreement between the company,
issuing shares / Debentures to public and the underwriter.
 Underwriter undertakes to purchase and pay for the shares /
debentures not subscribed (applied for) by the public. 3.1
 For this underwriter gets commission from the company.

# WHY UNDERWRITING IS NEEDED??

- When public issue of shares / debentures is made by the company,
- there is risk of non/ under subscription,
- resulting into refund of subscription &
- causing lot of issue expenditure to go waste
- This uncertainty can be avoided / insured by getting the issue
underwritten

# Short notes on Underwriting:

1. Contract: Underwriting (an issue of Shares or Debentures) is a
contract between a Company and another party called Underwriter,
whereby, in the event of the Shares or Debentures not being
subscribed fully by the public, the Underwriter agrees to take up the
balance.
2. Benefits: Underwriting Arrangement ensures that the Company’s
issue will be fully subscribed. The risk of the Capital not being
subscribed for by the public is effectively borne by the
Underwriters.
3. Commission: For the services rendered, the Underwriter is entitled
to a Commission. Underwriting Commission will be payable only at a
rate authorized by the Articles of Association, not exceeding 2.5%
of the Issue Price of Debentures and 5% of Shares. No
Commission can be paid in respect of Shares or Debentures which
have not been offered to the general public for subscription. These
are further subject to SEBI Guidelines in this regard.
4. Disclosure in Prospectus: When any issue of Shares or Debentures
is underwritten, the names of the Underwriters and the option of
the Directors that the resources of the Underwriters are sufficient
to discharge their obligations, should be stated in the Prospectus.

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Other short Notes:

1) Full underwriting (SHORT NOTE)
 When the entire issue is underwritten such underwriting is termed
‘full underwriting’. For example, X Ltd. decided to make a public issue
of 1,00,000 Equity shares of Rs.10 each which is entirely
3.2 underwritten by A, B, C and D in the ratio of 2:2:1:1.
 In such a case the benefit of unmarked applications is given to the
underwriter in the ratio of their gross liability i.e. 2:2:1:1.

2) Partial underwriting (SHORT NOTE)

 When only a part of issue is underwritten, such underwriting is
termed as ‘Partial Underwriting’. For example, X Ltd. decided to make
a public issue of 1,00,000 Equity shares of Rs.10 each out of which
90,000 shares are underwritten by A, B, C and D in the ratio of
2:2:1:1. It means 10,000 shares are underwritten by the company
itself.
 In such a case, the benefit of unmarked applications will first be
given to the company.
 In case there is surplus, such surplus will be distributed among other
underwriters in the ratio of their gross liability.

3) Sole underwriting
 When the issue is underwritten only by one underwriter, such
underwriting is termed as ‘Sole underwriting’. For example, if an issue
of 1,00,000 shares of Rs.10 each of X Ltd., is underwritten by A, it
is a case of sole underwriting.
 In such a case, the distinction between marked and unmarked
applications is not of such significance.

4) Joint underwriting
 When the issue is underwritten by two or more underwriters, such
underwriting is termed as ‘Joint Underwriting’. For example, if an
issue of 1,00,000 shares of Rs.10 each of X Ltd. is underwritten by
A, B, C and D in the ratio of 2:2:1:1, it is a case of joint underwriting.
 In such a case the benefit of unmarked applications is given to the
underwriters in the ratio of their gross liability.
 The benefit of marked applications is given to the concerned
underwriters in whose favour applications have been marked.

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5) Firm underwriting (SHORT NOTE)
 Meaning: Firm underwriting refers to a definite commitment of the
underwriter to take up a specified number of securities
irrespective of the number of securities subscribed by the public.
For example, the entire issue of X Ltd. is underwritten as follows:
i. 1,60,000 shares (firm underwriting 3,600 shares)
ii. 1,60,000 shares (firm underwriting 2,000 shares)
3.3
iii. 80,000 shares (firm underwriting 1,200 shares)
iv. 80,000 shares (firm underwriting 10,000 shares)
In this case only 4,63,200 shares (i.e. 4,80,000 shares – firm
underwriting of 16,800 shares) will be offered to public and
16,800 shares will be taken up by the underwriters even if the
issue is oversubscribed.
 Treatment: The benefit of firm underwriting may be given either.
i. To an individual underwriter on the basis of his individual firm
underwriting, or
ii. To all the underwriters in the ratio of their gross liability.
In other words, firm underwriting shares may be treated at
par with either ‘Marked Applications’ or ‘Unmarked
Applications’.

# IMP POINTS:

UNDERWRITER'S
LIABILITY

WITHOUT FIRM
UNDERWRITING WITH FIRM
UNDERWRITING
[A]

BENEFIT OF
FIRM UW NOT FIRM UNDERWRITING FIRM UNDERWRITING
INCLUDED IN TOTAL NOT INCLUDED IN TOTAL
GIVEN TO APPLICATION RECD.
BENEFIT OF
[D]
INDIVIDUAL FIRM UWUW
FIRM NOT
UNDERWRITER GIVEN TO
INDIVIDUAL
FIRM UW TREATED AS FIRM UW TREATED AS
UNMARKED MARKED UNDERWRITER
[B] [C]

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1. PRACTICAL QUESTIONS TO BE SOLVED IN CLASS

Que. 1
Harimani Ltd. came up with public issue of 30,00,000 Equity shares of Rs.10
each at Rs.15 per share. A, B and C took underwriting of the issue in 3:2:1
3.4 ratio.
Applications were received for 27,00,000 shares.
The marked applications were received as under:
A 8,00,000 shares
B 7,00,000 shares
C 6,00,000 shares
Commission payable to underwriters is at 5% on the face value of shares.
a. Compute the liability of each underwriter as regards the number of
shares to be taken up.
b. Pass journal entries in the books of Harimani Ltd. to record the
transactions relating to underwriters.

Que. 2
Husky Ltd issued 20,000 Shares which are underwritten as follows:
Alok – 12,000 Shares,
Nath – 5,000 Shares and
Chandi – 3,000 Shares.
The underwriters made applications for Firm Underwriting as under:
Alok – 1,600 Shares,
Nath – 600 Shares, and
Chandi – 2,000 Shares.
The total subscriptions excluding Firm Underwriting but including Marked
Applications were for 10,000 Shares.
The Marked Applications were:
Alok - 2,000 Shares,
Nath - 4,000 Shares and
Chandi – 1,000 Shares.
You are required to show the allocation of liability of the Underwriters.

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Que. 3
A joint stock company resolved to issue 10 lakhs equity shares of Rs. 10
each at premium of Rs. 1 per share. One lakh of these shares were taken
up by the directors of Rs.1 per share. One lakh of these shares were taken
the entire amount being received forthwith. The remaining shares were
offered to the public, the entire amount being asked for with application.
This issue was underwritten by X, Y and Z for a commission @ 2% of the 3.5
issue price, 65% of the issue was underwritten by X, while Y’s and Z’s
shares were 25% and 10% respectively. Their firm underwriting was as
follows:
X 30,000 shares, Y 20,000 shares and Z 10,000 shares. The underwriters
were to submit unmarked application for share underwritten firm with full
application money along with members of the general public.
Marked applications were as follows:
X - 1,19,500 shares,
Y - 57,500 shares and
Z - 10,500 shares
Unmarked applications totalled 7,00,000 shares.
Accounts with the underwriter’s were promptly settled.
You are required to:
a. Prepare a statement calculating underwriter’s liability for shares
other than shares under written firm.
b. Pass journal entries for all the transactions including cash
transactions.

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3.6

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