What is a Western account?
An agreement among underwriters (AAU) known as a “Western account” allows each underwriter to assume responsibility for a certain percentage of the new issue. They are not the same as an “eastern account,” where all underwriters are accountable for the case.
Some underwriters prefer Western accounts because they lower the risk for each underwriter. If the new issuance becomes more challenging than anticipated, these accounts reduce each participant’s effective responsibility. Conversely, western funds restrict the underwriters’ potential benefit if the latest issue performs well.
Western Accounts’ Operation
The Western account is one strategy underwriters use to control the risk of introducing new securities to the market, as in an IPO. Because the underwriters are obligated to pay the security issuer a fixed amount of money regardless of the price at which the securities may subsequently be sold to the public, these transactions are inherently hazardous for them. The difference between the price paid to the issuer and the price eventually received from selling the new securities to the public determines the underwriter’s profit.
Underwriters often work together to handle new issues to reduce this risk. As a result, underwriting “consortiums” are formed.
It is essential to specify the parties’ rights and obligations precisely when assembling several underwriting businesses in this way. The specific agreements known as agreements among underwriters, or AAUs, determine which underwriter is in charge of the percentage of the new issue used to achieve this.
The “divided account,” sometimes referred to as the Western one, is one typical illustration of an AAU structure. It stipulates that each underwriter will only be liable for the percentage of the issue it uses for inventory. The single underwriter left with that inventory bears the risk if any of the securities held by the other underwriters don’t sell or fetch unsatisfactory prices.
A Western Account Example
XYZ Corporation is a well-known manufacturer getting ready for its first public offering. Although the management team is highly skilled in their respective fields, they need a more specialized understanding of the financial markets. Because of this, they choose a lead underwriter, who then organizes a group of companies that will jointly handle XYZ’s IPO.
The underwriters have agreed to pay XYZ an amount equal to $25 per share as part of this transaction. The underwriting consortium must sell its shares to other investors for more than $25 a share to make money on the deal.
The underwriters of XYZ formed a consortium and used an AAU based on the Western account structure. As such, each participating underwriting company only took on liability for a certain percentage of the recently issued shares. Because of this, each company’s final underwriter’s profit or loss will be different.
An Underwriter: What Is It?
An underwriter is a person or entity that assumes the financial risk of another party in connection with a loan, mortgage, insurance policy, or other monetary transaction. Payments of interest are usually how the underwriter gets money. The gap between what underwriters pay for a newly issued security or investment and the price at which it is ultimately offered to the public is another way that underwriters might profit.
IPO: What Is It?
An initial public offering, or IPO, is when a big business sells its shares to the general public for the first time. Companies may raise money from the public via an initial public offering (IPO). Shares of the firm are traded on the public stock market after an initial public offering (IPO).
An IPO is underwritten by who?
Generally speaking, investment banks underwrite initial public offerings (IPOs). These banks often employ IPO experts who collaborate with the firm doing the IPO to guarantee compliance with all applicable regulations.
The Final Word
Underwriters, who may form an underwriting consortium, assume the risk of new securities when they are sold to the public, such as via an initial public offering (IPO). The underwriters have the option to use a Western account arrangement. Each underwriter in this system is only accountable for a certain percentage of the new shares.
This kind of arrangement reduces the risk that each underwriter takes. It also reduces the possible profit they may gain when the shares are offered for sale to the general public.
Conclusion
- Underwriters may enter into an arrangement known as a “Western account,” whereby each party allocates the newly issued securities.
- The Eastern account system, on the other hand, stipulates that each party is responsible for the whole problem.
- While a Western account restricts possible profit, it also reduces the risk each underwriter assumes.
- The underwriters aim to make money on the difference between the price they pay the issuer and the price they get from the investing public in both accounts.
