The Underwriting Arrangements

Rights offerings are typically arranged using standby underwriting. In standby underwriting, the issuer makes a rights offering, and the underwriter makes a firm commitment to "take up" (that is, purchase) the unsubscribed portion of the issue. The underwriter usually gets a standby fee and additional amounts based on the securities taken up.

Standby underwriting protects the firm against undersubscription, which can occur if investors throw away rights or if bad news causes the market price of the stock to fall below the subscription price.

In practice, only a small percentage (less than 10 percent) of shareholders fail to exercise valuable rights. This failure can probably be attributed to ignorance or vacations. Furthermore, shareholders are usually given an oversubscription privilege, which enables them to purchase unsubscribed shares at the subscription price. The oversubscription privilege makes it unlikely that the corporate issuer would have to turn to its underwriter for help.

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