A company goes public with an offering price of $18. There is a 7 percent underwriting spread. There is also a 15 percent overallotment option. The company is selling 25 million shares. The underwriter fills orders for 28. 75 million shares but has not exercised the overallotment option. The stock rises to $20. How much would it cost the underwriter to cover the short position? If the underwriter used all its profits from the short position to purchase shares, how many shares would it purchase (include the shares that must be purchased to cover the short position)?

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Asked Mar 25, 2019
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A company goes public with an offering price of $18. There is a 7 percent underwriting spread. There is also a 15 percent overallotment option. The company is selling 25 million shares. The underwriter fills orders for 28. 75 million shares but has not exercised the overallotment option. The stock rises to $20. How much would it cost the underwriter to cover the short position? If the underwriter used all its profits from the short position to purchase shares, how many shares would it purchase (include the shares that must be purchased to cover the short position)?
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Expert Answer

Step 1

Overallotment option with the underwriter = 15% of shares on offer = 15% x 25 mn = 3.75 mn shares

The underwriter has filled orders for 28. 75 million shares.

However, the company is selling 25 million shares.

Hence, shares short sold by the underwriter = 28.75 mn - 25 mn = 3.75 mn

Step 2

Offer price = $ 18

Hence, cost for the underwriter to cover the short position = N...

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