The over-allotment, the short it creates and the two ways to close it, worked through three aftermarket outcomes, with what the banks earn and what the issuer gives up.
A greenshoe lets the banks sell up to 15 per cent more shares than the base offer, creating a short position, and then close that short in one of two ways: by buying shares in the market if the price falls, which supports it, or by exercising an option to buy new shares from the issuer at the offer price if it rises. On an illustrative 20,000,000 share offer at EUR 25.00, the 3,000,000 over-allotted shares either raise EUR 73,125,000 more for the issuer, or are bought back in the market for EUR 70,800,000 at an average of 23.60, putting 14.2 per cent of the base deal behind the price.
Worked in full in Capital Markets by Julian R. Sterling, with every figure reproduced in a free workbook.See the book on Amazon →
The option is named after the first company to use one. What matters is the mechanism: the shoe turns a fixed deal size into a range, and the aftermarket decides which end of the range the issuer gets.
| Input | Value |
|---|---|
| Base offer | 20,000,000 shares |
| Offer price | EUR 25.00 |
| Base deal size | EUR 500,000,000 |
| Over-allotment, share of base offer | 15% |
| Gross spread to the banks | 2.5% |
| Net price to the issuer (25.00 less 2.5%) | EUR 24.375 |
Step 1: over-allot. The banks allocate 23,000,000 shares to investors, 3,000,000 more than the issuer is selling. The extra shares are borrowed, usually from a major shareholder, and the banks hold EUR 75,000,000 of investors' cash against an obligation to return 3,000,000 shares. That short is 13.04 per cent of the shares actually allocated.
Over-allotted shares = 20,000,000 × 15% = 3,000,000
Short proceeds held by the banks = 3,000,000 × 25.00 = 75,000,000
Greenshoe: option to buy 3,000,000 new shares from the issuer at 24.375
Cheapest way to close the short = MIN(market price, 24.375) per share. In Excel: =Shares*(Offer-MIN(Market,Offer*(1-Spread))) gives the banks' result.
Step 2: the aftermarket decides. Over the stabilisation period, three outcomes are possible.
| Outcome | Bought in market | Cost | Shoe exercised | Extra to issuer | Banks' result |
|---|---|---|---|---|---|
| A. Price rises to 28.00 | 0 | 0 | 3,000,000 | 73,125,000 | 1,875,000 |
| B. Price falls, bought at 23.60 | 3,000,000 | 70,800,000 | 0 | 0 | 4,200,000 |
| C. Mixed, bought at 24.80 | 1,200,000 | 29,760,000 | 1,800,000 | 43,875,000 | 1,365,000 |
A: the price rises. Buying in the market at 28.00 to return shares sold at 25.00 would cost the banks money, so they exercise the shoe in full. The issuer sells 3,000,000 more shares at the net 24.375 and raises EUR 73,125,000, 15.00 per cent more than the EUR 487,500,000 of the base deal. The banks earn the spread on the extra shares, 0.625 a share or EUR 1,875,000.
B: the price falls. The banks buy 3,000,000 shares in the market at an average of 23.60, EUR 70,800,000, return them to the lender and keep the 1.40 a share difference: EUR 4,200,000. The issuer raises nothing more. But those purchases are demand that would not otherwise exist, equal to 14.2 per cent of the base deal, placed exactly when the stock needs it. That is the purpose of stabilisation. Who keeps the gain is a term of the underwriting agreement, not a law of nature; read it.
C: a mixed path. The banks buy 1,200,000 shares while the price is under water at 24.80 and exercise the shoe for the other 1,800,000. The issuer receives EUR 43,875,000; the banks keep 1,125,000 of spread and 240,000 of stabilisation gain.
| Market price | Route | Banks' result | Extra to issuer | Shoe shares sold below market |
|---|---|---|---|---|
| 22.00 | Buy in market | 9,000,000 | 0 | 0 |
| 23.00 | Buy in market | 6,000,000 | 0 | 0 |
| 24.00 | Buy in market | 3,000,000 | 0 | 0 |
| 24.60 | Exercise | 1,875,000 | 73,125,000 | 0 |
| 25.00 | Exercise | 1,875,000 | 73,125,000 | 0 |
| 26.00 | Exercise | 1,875,000 | 73,125,000 | 3,000,000 |
| 28.00 | Exercise | 1,875,000 | 73,125,000 | 9,000,000 |
| 30.00 | Exercise | 1,875,000 | 73,125,000 | 15,000,000 |
Two things stand out. The banks' result is never negative: the shoe is what makes the over-allotment riskless for them, because a rising price is met with new shares at a fixed cost. And there is a band, between the net exercise price of 24.375 and the offer price of 25.00, where the stock trades below issue yet the cheapest route for the banks is to exercise rather than buy. A shoe that is fully exercised does not prove the stock never needed support.
In the EU, the market abuse rules limit the over-allotment to 15 per cent of the original offer, the stabilisation period to 30 calendar days, and stabilising purchases to the offer price or below. Other markets have comparable limits. Check the prospectus and the stabilisation notice for the actual terms.
In outcome A the issuer sells 3,000,000 shares at 25.00 gross into a market paying 28.00: EUR 9,000,000 below market value, on top of the EUR 1,875,000 of spread. That figure appears on no invoice. It is the same kind of cost as an issue discount, and it is the price of having support in the other outcome. At 30.00 it is EUR 15,000,000. In outcome B the shoe costs the issuer nothing, and the stabilisation gain goes to whoever the agreement names.
How the same logic of uninvoiced cost applies to a discounted accelerated placement is worked in how much of an accelerated placement's cost never appears on an invoice, and the ownership arithmetic of new shares in how much a discounted placing dilutes shareholders.
The greenshoe makes the deal size a function of the aftermarket: 3,000,000 extra shares sold for EUR 73,125,000 if the price holds above 24.375, bought back for support if it does not. Model both ends, and put the below-market value of exercised shares beside the fee. The cost of raising equity, split into what is invoiced and what is not, is rebuilt in the free workbooks for this book.
After the first company whose offering used the clause. The mechanism is what matters: banks over-allot up to 15 per cent and hold an option to buy that many new shares from the issuer at the offer price less the spread. On an illustrative 20,000,000 share offer, the option covers 3,000,000 shares at a net 24.375.
If the price falls, the banks buy back the over-allotted shares below the offer price and the difference is a gain: 3,000,000 shares sold at 25.00 and bought at 23.60 leave EUR 4,200,000. The underwriting agreement decides who keeps it. If the price rises, the banks earn only the spread on exercised shares, 1,875,000 in the illustration.
A put rather than a call: the banks may sell shares back to the issuer at the offer price if the stock falls, which lets them support the price without first over-allotting. It mirrors the standard shoe, where on the illustrative deal the issuer receives EUR 73,125,000 if the price rises and nothing if it falls.
This article is one calculation from Capital Markets. The book takes the same case from first principles to the decision, chapter by chapter, and every figure it prints is a live formula in the free companion workbooks.
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