1. The Green Shoe Option (GSO), also known as Over Allotment option allows companies to intervene in the market to stabilise share prices during the 30-day stabilization period immediately after listing. This involves purchase of equity shares from the market by the company-appointed agent in case the shares fall below issue price.
2. The GSO is exercised by a company making a public issue. The issuer company uses green shoe option during IPO to ensure that the shares price on the stock exchanges does not fall below the issue price after issue of shares.
3. Any company when decides to go public generally prefers the IPO route, which it does with the help of big investment bankers also called underwriters. These underwriters are responsible for making the public issue successful and find the buyers for company’s shares. They are paid a certain amount of commission to do this work.
4. Green shoe option is a clause contained in the underwriting agreement of an IPO. It allows the underwriting syndicate to buy up to an additional 15% of the shares at the offering price if public demand for the shares exceeds expectations and the stock trades above its offering price.
5. From an investor’s perspective, an issue with green shoe option provides more probability of getting shares and also that post listing price may show relatively more stability as compared to market.
Let us look at it once again
How green shoe option works
1. As said earlier, the entire process of a GSO works on over-allotment of shares. For instance, a company plans to issue 1 lakh shares, but to use the greenshoe option; it actually issues 1.15 lakh shares, in which case the over-allotment would be 15,000 shares. Please note, the company does not issue any new shares for the over-allotment.
2. The 15,000 shares used for the over-allotment are actually borrowed from the promoters with whom the stabilising agent signs a separate agreement. For the subscribers of a public issue, it makes no difference whether the company is allotting shares out of the freshly issued 1 lakh shares or from the 15,000 shares borrowed from the promoters.
3. Once allotted, a share is just a share for an investor. For the company, however, the situation is totally different. The money received from the over-allotment is required to be kept in a separate bank account (i.e. escrow account)
Role of the stabilising agent
1. The stabilising agent starts its process only after trading in the share starts at the stock exchanges.
2. In case the shares are trading at a price lower than the offer price, the stabilising agent starts buying the shares by using the money lying in the separate bank account. In this manner, by buying the shares when others are selling, the stabilising agent tries to put the brakes on falling prices. The shares so bought from the market are handed over to the promoters from whom they were borrowed.
3. In case the newly listed shares start trading at a price higher than the offer price, the stabilising agent does not buy any shares.
4. In the entire process the company has no role to play and any gains or losses arising out of the green shoe option belongs to the underwriters.
Companies such as Sahara Prime City, DB Realty, Lodha Developers and Ambience had opted for the green shoe option, which helped them stabilise share prices in the event of extreme volatility or prices moving below offer price.
To conclude, from investor’s point of view those companies which have green shoe option in their IPO process are considered to be good because they have a built-in price stabilising mechanism which will ensure the prices will not go below its offer price.
Hope the information was useful.
Your feedbacks are warmly welcomed.
The author can also be reached at email@example.com