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The Pricing of Underwriting Risk in Relation to Australian Rights Issues

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  • John C. Handley

    (Department of Accounting and Finance, Faculty of Economics and Commerce, The University of Melbourne, Parkville VIC 3052.)

Abstract

The majority of rights issues undertaken by companies listed on the Australian Stock Exchange are underwritten whereby the underwriter, for a fixed fee, assumes the risk of a shortfall in subscriptions for the new shares on offer. This paper examines the pricing of underwriting risk within an option pricing framework. Using a sample of sixty rights issues of ordinary shares undertaken during the three year period ending 30 June, 1993, the risk of a shortfall that is sold by the issuer to the underwriter is found to be significantly overpriced by 0.60% of the offer price, representing 49% of the underwriting fee, on average. These excess returns to underwriting are found to be unrelated to the size of the issue and the condition of the market at the time of the issue, however, significantly higher excess returns are associated with lower volatility stocks and deeper discount issues. Further, underwriter reputation and the existence of a prior relationship between the underwriter and the issuer are also found to influence the size of the excess returns.

Suggested Citation

  • John C. Handley, 1995. "The Pricing of Underwriting Risk in Relation to Australian Rights Issues," Australian Journal of Management, Australian School of Business, vol. 20(1), pages 43-74, June.
    • Handle: RePEc:sae:ausman:v:20:y:1995:i:1:p:43-74
    DOI: 10.1177/031289629502000103
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    References listed on IDEAS

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    Cited by:

    1. Anjos, Fernando, 2010. "Investment commitment and the valuation of underwriting agreements for rights issues," Finance Research Letters, Elsevier, vol. 7(4), pages 202-213, December.
    2. Howard Chan, 1997. "The effect of volatility estimates in the valuation of underwritten rights issues," Applied Financial Economics, Taylor & Francis Journals, vol. 7(5), pages 473-480.
    3. Foley, Sean & Kwan, Amy & Low, Siyuan Adrian & Svec, Jiri, 2018. "The rise before the close: Underwriter trading around SEOs," Journal of Empirical Finance, Elsevier, vol. 48(C), pages 221-235.

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    Keywords

    RIGHTS ISSUES; UNDERWRITING;

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