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When a company issues shares/debentures to the public, there is a risk of under-subscription. Underwriting reduces this risk by hiring underwriters who guarantee subscription for a commission.
In exams, most questions ask:
You should be able to:
Underwriting means an agreement in which an underwriter promises that if the public does not subscribe the entire issue, the underwriter will subscribe the balance (shortfall).
Thus, underwriting provides a minimum subscription assurance to the company.
Underwriting is important because:
Entire issue is underwritten (100% guarantee).
Only a part of issue is underwritten.
More than one underwriter underwrites in agreed proportions.
An underwriter transfers part of his risk to another underwriter (sub-underwriter).
Applications identified with a specific underwriter (based on forms/serial). These reduce that underwriter’s liability first.
Not identifiable with any underwriter. Common treatment: distribute among underwriters in the ratio of gross liability (unless question specifies otherwise).
Underwriter commits to take a fixed number regardless of public subscription. It is treated as separate commitment in many computations (exact treatment per problem statement).
Underwriting commission is the fee paid to underwriter for:
It is treated as an issue expense (charged to profit & loss / securities premium as per policy and rules, syllabus dependent).
In simple terms:
Gross liability (as per agreement)
– Marked applications (for that underwriter)
– Share of unmarked applications (allocated in ratio)
= Net liability (shares to be taken by underwriter)
If firm underwriting exists, include it as per the question (often added separately).
Mini table (structure):
Exact entries depend on how commission is settled and whether underwriter pays application money. Common entries:
Underwriting Commission A/c Dr
To Underwriters A/c
Underwriters A/c Dr
To Bank A/c
Underwriters A/c Dr
To Share Application/Allotment A/c (as applicable)
(and then transferred to Share Capital when allotment is made)
Exam tip: For theory answers, writing (A) and (B) is usually enough, unless problem asks detailed application/allotment entries.
Flow to draw: Issue → Public subscription → Shortfall → Underwriter takes balance → Company receives full funds
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When a company issues shares/debentures to the public, there is a risk of under-subscription. Underwriting reduces this risk by hiring underwriters who guarantee subscription for a commission.
In exams, most questions ask:
You should be able to:
Underwriting means an agreement in which an underwriter promises that if the public does not subscribe the entire issue, the underwriter will subscribe the balance (shortfall).
Thus, underwriting provides a minimum subscription assurance to the company.
Underwriting is important because:
Entire issue is underwritten (100% guarantee).
Only a part of issue is underwritten.
More than one underwriter underwrites in agreed proportions.
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From this topic
Underwriting is important because it:
Thus, it reduces the risk of issue failure due to under-subscription.
Any three types of underwriting:
(Sub-underwriting can also be written: sharing part of risk with sub-underwriter.)
Underwriting Commission A/c Dr
To Underwriters A/c
Underwriters A/c Dr
To Bank A/c
Underwriting commission is treated as an issue expense and paid to underwriters for guarantee/service.