COMPANY ACCOUNTS

UNDERWRITING OF SHARES
AND DEBNTURES

INTRODUCTION
In

case of public limited

companies the minimum
subscription must be received in
order to get certificate of
commencement of business.
Companies in order to ensure
minimum subscription, resort to
underwriting.

UNDERWRITING
Underwriting

is an agreement, entered
into, by a company with a financial
agency, or individual or partnership firm,
in order to ensure that if the public will
not subscribe for the entire issue, of
shares or debentures, made by the
company, the underwriters will do the
same.
The financial agency is known as the
Underwriter and it agrees to buy that
part of the companys issues which is not
subscribed by the public, in consideration
of a specified underwriting commission.

BENEFITS OF
UNDERWRITING
It

relieves the company from the

risk and uncertainty of marketing
the securities.
Underwriters have an intimate
and specialized knowledge of the
capital market.
They offer valuable advice to the
issuing company in the
preparation of the prospectus,
time of floatation etc.

It

builds up investors' confidence

in the issue of securities.
The issuing company is assured
of the availability of funds.
Important projects are not
delayed for want of funds.
They also provide publicity
service to the companies which
have entered into underwriting
agreements with them.

Complete

underwriting-- If the
whole issue of shares or debentures
of a company is underwritten, it is
called complete underwriting.

Partial

underwriting-- If part of issue

of shares or debentures of a
company is underwritten, it is said
to be partial underwriting.

Firm

underwriting When an
underwriter agrees to buy a definite
number of shares or debentures in
addition to the shares and debentures
he has to take under the underwriting
agreement, this is called firm
underwriting.
Partial underwriting along with firm
underwriting-- In this type of
underwriting, individual underwriter
does not get the benefit of firm
underwriting in determination of
number of shares or debentures to be
taken up by him.

DISCLOSURE REQUIREMENTS
(provisions of the Companies
Act, 1956 regarding
Disclosure in
disclosure
ofthe
underwriting
Prospectus.
Disclosure in the Statutory
agreement)
Report.
Disclosure of Sums Payable.

UNDERWRITING
COMMISSION
Underwriting

commission is a
payment, which is given by the
company, to underwriters for
their services of underwriting.
Companies can give maximum
5% commission to underwriters
for selling its shares.

PAYMENT OF UNDERWRITING
COMMISSION

According to sec 76 of the Companies Act, 1956,a

company is authorized to pay such commission
subject to following restrictions:
The articles must authorize the payment of
commission.
The rate of commission must not exceed 5% of the
issue price of shares or the amount or rate authorized
by articles whichever is less and in case of
debentures, 2.5% of the issue price or the amount or
rate authorized by articles, whichever is less.
In practice, SEBI has allowed the commission only at
the rate of 2.5% of issue price of equity shares
though Section 76 provides for maximum rate of 5%.

The

commission paid or agreed to be

paid must be disclosed in the
prospectus and if no prospectus is
issued, in the statement in lieu of
prospectus.
The number of shares or debentures
which underwriters have agreed to
subscribe absolutely or conditionally
should be disclosed in the prospectus.
A copy of the contract regarding the
payment of commission should be
delivered to the registrar.

The

commission is only payable if the

shares or debentures are offered to the
general public. No underwriting commission
can be paid if the issue is privately placed.
As per SEBI guidelines:
Underwriting

is not mandatory. In case the

issue is not underwritten and minimum
subscription of 90% of the offer to the public is
not received, the entire amount received as
subscription would have to be refunded if full.

In case the issue is underwritten and if the

company does not receive 90% of issued
capital from the public subscription plus
accepted development from underwriters, with
in 120 days from the date of opening of the
issue, the company shall refund the amount of
subscription.

The

lead managers must satisfy

themselves about the net worth
of the underwriters and the
outstanding commitments and
disclose the same to SEBI.
The underwriters agreement may
be filed with the stock exchange.

Following rates for the payment

of underwriting commission are
in force

(A)EQUITY SHARES
(B) PREFERENCE SHARES/
CONVERTIBLE AND NON
CONVERTIBLE
DEBENTURES
(i) For amounts upto 5 lacs
(ii)For amounts in excess of
5 lacs

On amounts
developing
on the
underwriters
(%)

On
amounts
subscribed
by the
public (%)

2.5

2.5

2.5
2

1.5
1

MARKED OR UNMARKED
APPLICATIONS
Shares or debentures issued by a company are
usually underwritten by two or more firms of
underwriters in an agreed ratio. Every
underwriter wants to sell the maximum number
of shares and debentures in order to reduce his
risk.

Marked applications-- Generally the

forms are stamped with the name of the

underwriters in order to distinguish the
forms of one underwriter from that of others
and to determine the liability of the
individual underwriter. Such stamped
applications when received are called
marked applications.

Unmarked applications: The

application forms which are
received by the company without
any name of the underwriter are
called unmarked applications.

Determining the liability of

underwriters
COMPLETE

UNDERWRITING:
(I)If the whole issue of the shares
or debentures is underwritten
only by one underwriter:
The liability of underwriters will be
determined by deducting the total
application money received from the
shares or debentures offered to public.
It will be more clear from the
following illustration:

Illustration

1:

A company issues 50,000 shares of Rs.10

each at par. The whole issue has been
underwritten by X & Co. for a commission of
4%. The company received applications
only for 47,000 shares. All the applications
were accepted. Give the journal entries to
record the above transactions.

Solution :
on the next slide.

DATE

PARTICULARS
Bank A/c
Dr.
To Equity Share Capital
A/c
(being application money
of 47000 shares@ 10each
received)
________________________
X & Co. A/c
Dr.
To Equity Share
Capital
(being the allotment of
3000 shares of 10each not
taken up by public)
________________________
Comm. on issue of shares
A/c Dr.
To X & Co. A/c
(being commission due to
X &Co. @4% on 50000
shares of 10 each)
________________________

LF

AMOUNT
(DR)

AMOUNT
(CR)

4,70,000
4,70,000

30,000
30,000

20,000
20,000

10,000
10,000

(II) If the whole issue of the shares or

debentures is underwritten by number of
underwriters in an agreed ratio:
There are two ways of determining liability:
(i)The liability of each underwriter in this way will
be:
Gross liability according to agreed ratio ..
Less: Marked applications
..
Balance left
..
Less: unmarked application (in the ratio of
Gross liabilty)
..
Net liability
.....

(ii) The liability of each underwriter in this

other way will be:
Gross liability according to agreed ratio
..
Less: Marked applications
..
Balance left
..
Less: unmarked applications(in the ratio of
balance left,i.e., gross liability as
reduced by marked applications)

Net liability
..

PARTIAL UNDERWRITING:
If a part of the issue of shares or
debentures is underwritten only by one
underwriter:
In this case liability to be determined can
be understood with the help of following
illustration:
Illustration: A entered into an underwriting
agreement with B Ltd. for 60% of the
issue of rs.50,00,000 15% debentures
with a firm underwriting of rs. 5,00,000.
Marked applications were for rs.
35,00,000 debentures. Calculate the
liability of the underwriter and the
commission payable to him.
(a)

Solution:
Net liability of A being 60% of
rs.50,00,000 i.e., 30,00,000rs.
Since the issue is oversubscribed
and there is a firm underwriting
the liability of underwriter will be
limited to the extent of firm
underwriting i.e. 5,00,000 rs.
Commission 2.5% of 30,00,000rs
= 75,000 rs.

(b) If the part of the issue of shares or

debentures is underwritten by a
number of underwriters:
In such a case only a part of the whole
issue(say 70% or 80%) is underwritten
by a number of underwriters and the
balance (i.e.30% or 20%)is concerned,
the company itself is the underwriter
of the same. All unmarked applications
are treated as marked applications so
far as the company is concerned. The
method of determining net liability is
similar to the method II (a)

FIRM UNDERWRITING
Firm underwriting means when an
underwriter agrees to buy a definite
number of shares or debentures in
addition to the shares or
debentures he has to take under
the underwriting agreement. In
case of firm underwriting the
underwriters get priority over the
general public, if shares or
debentures are oversubscribed.

MISCELLANEOUS
ILLUSTRATIONS:

Illustration 1. B Ltd. made an issue of 10,000 14% Mortgage

Debentures Of Rs. 100 each at 96. the whole of the issue was
underwritten by M/s Smart Bulls. 8500 debentures applied for and
allotted to the public. The underwriters discharged their liability and
were paid their liability and were paid their commission which was at
the rate of 2% on the nominal value of the debentures. Give journal
entries.
Solution.
In the books of B Ltd.
journal entries
Dr. (Rs.)
Cr. (Rs.)
Underwriting commission A/C Dr.
20,000
To M/S Smart Bulls A/C
20,000
(Underwriting commission due to M/S Smart Bulls
on 10,000 debentures of Rs.100 each)
14% Mortgage Debenture Application A/C Dr.
Discount on Issue of Debentures A/C Dr.
To 14% Mortgage Debentures A/C

8,16,000
34,000

M/S Smart Bulls A/C Dr.

Discount on Issue of Debentures A/C Dr.

1,44,000
6,000

TO 14% Mortgage Debentures A/C

1,50,000
( 1500 14% Debentures Of Rs.100 each taken
up by the underwriters @ Rs.96 per debenture)
Bank A/C Dr.
To M/S Smart Bulls A/C
1,24,000
( Being balance due received from M/S Smart Bulls)

1,24,000

Illustration 2. X Ltd. Issued 10,000 shares of

Rs.100 each at a premium of Rs.15 each. 90%
of the issue was underwritten by M/s Broker &
Co. at a commission of 1% on the nominal face
value. Applications were received for 8,000
shares and allotment was fully made. All the
money received from allottees was received in
one installment. The account with Broker & Co.
were settled. Show the journal entries to record
the transactions.

Solution.
X Ltd. should itself be treated as an underwriter
for 10% of the issue because M/s Broker & Co.
have underwritten 90% of the issue. In the
absence of any information, the applications for
8,000 shares should be treated marked 90% in
the favour of underwriter and 10% in the favour
of the company. Therefore M/s Broker & Co. are
liable to take up 1800 shares calculated as
follow:
No. of Shares
(a) issued by the company
10,000
(b) applications received for
8,000
(c) applications received in favour of
M/s Broker & Co.

7,200

(d) Issue underwritten 90%

9,000

(e) M/s Broker & Co. liable to take up [(d) - (c)]

1,800

journal entries
Dr. (Rs.)
(Rs.)
Bank a/c Dr.

9,20,000

To Share Application & Allotment A/C

9,20,000
( Being amount received on 8,000 shares @ Rs.
115 shares)
Share Application & Allotment A/C Dr.
To Share Capital A/C
8,00,000
To Securities Premium A/C
1,20,000
(Being transfer of amount received on 8,000
shared to share capital & securities premium a/c)

9,20,000

Cr.

M/s Broker & Co. A/C Dr.

2,07,000

To Share Capital A/C

1,80,000
To Securities Premium
27,000
( Being allotment of 1,800 shares of Rs.100 each @ a
premium of Rs.15 per share to M/s. Broker & Co.)
Underwriting Commission A/C Dr.

9,000

To M/s Broker & Co.

9,000
( Being commission payable to the underwriters @ 1%
on Rs.1,000)
Bank A/C Dr.
To M/s Broker & Co.
1,98,000
( Being amount due from M/s Broker & Co.)

1,98,000

Illustration 3. Super India Ltd. issued 70,000

equity shares. The whole of the issue was
underwritten as follow
A: 50%, B: 25%, C: 25%.
Applications for 60,000 shares were received
in all, out of which application for 15,000 shares
had the stamp A, those for 7,500 shares that of
B & those for 15,000 shares that of C. the
remaining applications for 22,500 shares did
not bear any stamp. Determine the liability of
the underwriters.

A(50%)

B(25%)

C(25%)

Shares

Shares

Shares

37,500

18,750

18,750

Less: marked applications

15,000

7,500

15,000

Balance left

22,500

11,250

3,750

Gross liability in the agreed ratio

(50:25:25)

Less: unmarked applications in the

value of gross liability(50:25:25)
( 5,625)

(11,250)

Balance
1,875)

11,250

(5,625)
5,625

(-

Less: credit for Cs oversubscription

To A & B in their gross ratio
(50:25)
(1,875)

(1,250)

Net liability

10,000

(625)
5,000