Loan Syndication- Book Building
Loan syndication is the process of involving a group of lenders in funding various portions of a loan for a single borrower. Loan syndication most often occurs when a borrower requires an amount too large for a single lender to provide or when the loan is outside the scope of a lender’s risk-exposure levels. Thus, multiple lenders form a syndicate to provide the borrower with the requested capital.
The agreements between lending parties and loan recipient often need to be managed by a corporate risk manager to reduce misunderstandings and to enforce contractual obligations. The primary lender conducts most of this due diligence, but lax oversight can increase corporate costs. Company legal counsel may also be engaged to enforce loan covenants and lender obligations.
How Loan Syndication Is Used In Corporate Financing?
Loan syndication is often used in corporate financing. Firms seek corporate loans for a variety of business reasons that include funding for mergers, acquisitions, buyouts, and other capital expenditure projects. These types of capital projects often require large amounts of capital that typically exceed a single lender’s resource or underwriting capacity.
Loan syndication allows any one lender to provide a large loan while maintaining a more prudent and manageable credit exposure because the associated risks are shared with other lenders. Each lender’s liability is limited to their respective share of the loan interest. Generally speaking, with the exception of collateral requirements, most terms are uniform among lenders. Collateral assignments are generally assigned to different assets of the borrower for each lender. Usually, there is only one loan agreement for the entire syndicate
Every business organization needs funds for its business activities. It can raise funds either externally or through internal sources. When the companies want to go for the external sources, they use various means for the same. Two of the most popular means to raise money are Initial Public Offer (IPO) and Follow on Public Offer (FPO).
During the IPO or FPO, the company offers its shares to the public either at fixed price or offers a price range, so that the investors can decide on the right price. The method of offering shares by providing a price range is called book building method. This method provides an opportunity to the market to discover price for the securities which are on offer.
Book Building may be defined as a process used by companies raising capital through Public Offerings-both Initial Public Offers (IPOs) and Follow-on Public Offers (FPOs) to aid price and demand discovery. It is a mechanism where, during the period for which the book for the offer is open, the bids are collected from investors at various prices, which are within the price band specified by the issuer. The process is directed towards both the institutional investors as well as the retail investors. The issue price is determined after the bid closure based on the demand generated in the process.
Book Building vs. Fixed Price Method
The main difference between the book building method and the fixed price method is that in the former, the issue price to not decided initially. The investors have to bid for the shares within the price range given. The issue price is fixed on the basis of demand and supply of the shares.
On the other hand, in the fixed price method, the price is decided right at the start. Investors cannot choose the price. They have to buy the shares at the price decided by the company. In the book building method, the demand is known every day during the offer period, but in fixed price method, the demand is known only after the issue closes.
Book Building in India
The introduction of book-building in India was done in 1995 following the recommendations of an expert committee appointed by SEBI under Y.H. Malegam. The committee recommended and SEBI accepted in November 1995 that the book-building route should be open to issuer companies, subject to certain terms and conditions. In January 2000, SEBI came out with a compendium of guidelines, circulars and instructions to merchant bankers relating to issue of capital, including those on the book-building mechanism.
Book Building Process
The principal intermediaries involved in a book building process are the companies, Book Running Lead Manager (BRLM) and syndicate members are the intermediaries registered with SEBI and eligible to act as underwriters. Syndicate members are appointed by the BRLM. The book building process is undertaken basically to determine investor appetite for a share at a particular price. It is undertaken before making a public offer and it helps determine the issue price and the number of shares to be issued.
The following are the important points in book building process:
- The Issuer who is planning an offer nominates lead merchant banker(s) as ‘book runners’.
- The Issuer specifies the number of securities to be issued and the price band for the bids.
- The Issuer also appoints syndicate members with whom orders are to be placed by the investors.
- The syndicate members put the orders into an ‘electronic book’. This process is called ‘bidding’ and is similar to open auction.
- The book normally remains open for a period of 5 days.
- Bids have to be entered within the specified price band.
- Bids can be revised by the bidders before the book closes.
- On the close of the book building period, the book runners evaluate the bids on the basis of the demand at various price levels.
- The book runners and the Issuer decide the final price at which the securities shall be issued.
- Generally, the number of shares is fixed; the issue size gets frozen based on the final price per share.
- Allocation of securities is made to the successful bidders. The rest bidders get refund orders.