An underwriting syndicate is a temporary group of investment banks and securities firms formed to bring a new issue of shares or bonds to market. Its members jointly commit to buy the securities from the issuer, or to find buyers for them, and then distribute them to investors. The group exists for a single transaction and dissolves once the offering has been sold and settled.
Syndicates are used because a large offering can be too big for one firm to carry alone. Spreading the commitment across several banks divides the risk of being left with unsold securities and widens the range of investors who can be reached. They are a standard feature of an initial public offering, of follow-on share sales and of corporate and government bond issuance. The practice is the capital markets counterpart of loan syndication in bank lending.
Roles within a syndicate
Members have different levels of responsibility and reward:
- Lead manager or bookrunner. The investment bank chosen by the issuer to run the offering. It advises on structure and timing, organises due diligence and documents, markets the deal, keeps the order book and decides allocations. Large deals have several joint bookrunners, sometimes with one or more named global coordinators.
- Co-managers. Firms with a smaller underwriting commitment and little say in how the deal is run. They may be included for their research coverage, their relationship with the issuer or their reach among particular investors.
- Selling group. Brokers that help sell the securities to their clients for a fee but take no underwriting commitment and so bear no risk on unsold amounts.
How a syndicate operates
The issuer first awards the mandate, either by negotiation with banks it knows or through a competitive bid, which is common for government and municipal debt. The lead manager then invites other firms to join and agrees each one's share. Two contracts govern the arrangement. The underwriting agreement, between the issuer and the underwriters, sets the price, the commitments and the conditions under which the banks may withdraw. An agreement among underwriters sets out how the members share liabilities, expenses and fees, and gives the lead manager authority to act for the group.
Under a firm commitment, the syndicate buys the whole issue at an agreed price and resells it, bearing any loss if it cannot be sold at the offer price. Under a best efforts arrangement the banks act only as agents and unsold securities stay with the issuer. Pricing is normally reached through book building: the bookrunners collect indications of demand from investors during a marketing period, described in the prospectus, and set the final price and size on the evidence of the book. Because the price is fixed only at the end, the period during which the banks are genuinely at risk is usually short.
After pricing, the lead manager may support the market price for a limited time under a stabilisation mechanism. This is often linked to a greenshoe option, which allows the syndicate to sell more securities than the base offering, commonly up to an extra 15%, and to cover that position either by buying in the market or by taking additional securities from the issuer.
Fees
The syndicate is paid through the gross spread, the difference between the price paid to the issuer and the price at which the securities are sold to the public. It is traditionally divided into three parts: a management fee for the lead managers' work in arranging the deal, an underwriting fee for the risk assumed, shared in proportion to commitments, and a selling concession paid to whichever firm places the securities. The spread is a much larger percentage for share offerings, particularly smaller flotations, than for investment-grade bonds. In modern book-built deals most of the economics go to the bookrunners.
Liability and regulation
Underwriters act as gatekeepers. In the United States, securities law makes underwriters liable to investors for material misstatements in a registration statement unless they can show they made a reasonable investigation, which is why syndicates carry out extensive due diligence on the issuer. Other jurisdictions impose comparable responsibility on sponsors or lead managers. Rules on market abuse limit what syndicate members may trade and publish around the offering, and conduct rules govern how allocations are made; IPO allocation practices such as favouring clients in return for other business have been the subject of enforcement action. Banks manage the resulting conflicts through information barriers between their advisory, research and trading arms.
Criticism and alternatives
Critics argue that syndicates are larger than risk-sharing requires, that fees show little price competition, and that shares are often priced below the level at which they later trade, to the benefit of favoured investors at the issuer's expense. Banks reply that a discount compensates investors for uncertainty and that syndicate members provide research and trading support in the secondary market afterwards.
Issuers have other routes to market. A private placement sells securities to a small number of investors without a public offering, a direct listing admits existing shares to trading without underwriters, and auction-based offerings set the price by investor bids. For frequent bond issuers, shelf registration and standing dealer groups allow rapid issues with a small syndicate assembled within hours.