An IPO is kind of like the moment when a parent takes the training wheels off their kid's bike for the first time. They run alongside the bike for the first few feet, but eventually let go, standing proudly in the street as their kid rides off into the distance.
The reverse greenshoe option is there in case the kid runs directly into a parked car.
In an initial public offering, a company lists its stock on a public exchange for the first time. Typically, there's an offering price, which is the price at which the stock first goes public. Then the shares are off, trading moment to moment, day to day, like any other stock. (That's the "let go of the bike" moment.)
A well-managed IPO will see shares rise early in their trading career. Market demand will be higher than the amount of stock offered. No one wants their stock to go public at $15 and instantly drop to $13. It shows a lack of confidence by the market, and doesn't allow much room to pay off those folks who got in on the deal early, buying shares at the offering price.
Ideally, the stock will see an initial bump...go public at $15 and rise to $17. That situation evidences a much healthier supply/demand dynamic.
A reverse greenshoe option is used to support the share price in case demand for the stock turns out to be lighter than expected. The provision allows the underwriters of the offering (the people running the IPO) to sell shares back to the company. Basically, they can take shares off the market and send them back to the company. The lower supply makes the existing float more valuable (because there are fewer shares to go around), supporting the stock price.
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Finance: What is an Underwriter?81 Views
finance a la shmoop what is an underwriter Undertaker underwriter
taking your company public well then you need one of these guys and yeah if [Woman writing at a desk]
things go poorly well then you may need one of these guys but if things go well [Gravestone]
an underwriter will get to know your company audit your financials give their
Good Housekeeping Seal of Approval to the investment community with whom they
deal regularly and introduce you as part of their family selling a piece of your
company to that world you know hedge funds mutual funds private wealthy [List of benefits that come with an underwriter]
investors such that they are the you know financial wind beneath your wings [Skyscraper flying away]
for a brief moment in time the underwriter usually an investment bank
like the vaunted Goldman Sachs or Morgan Stanley or JP Morgan or UBS or Sumitomo
will actually themselves own whatever piece of your company you are bringing [Logos for the banks appearing]
public like if you're selling 18 million shares at 20 bucks the bank's our
underwriters take a new public will own all 18 million shares having paid you
$19.60 for them and then turning around five minutes later and selling them for
20 bucks to John Q invest or making 40 cents a share in spread or markup or in [Spread calculation shown]
this case 40 times 18 million or 7.2 million dollars just for the pleasure so
that's an underwriter and if they screw up well yeah and ironically the [Underwriter stamp]
announcement he'll see in the digital paper is usually in the shape of a
tombstone announcing everything why a tombstone well because it represents the
death of ambiguity or confusion in that company's former life as a private one [Gravestone for ambiguity]
The Undertaker's hopefully have far far away [The Undertaker running away with the word confusion]
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