Underwriting Guidelines under Company’s Act

Underwriting, as per the Companies Act, refers to a contractual arrangement where an underwriter agrees to subscribe to the shares or debentures of a company if the public does not subscribe to them fully. This ensures the company receives the required capital for its business needs. Underwriting agreements may be for the whole or a part of the issue and can be made with individuals, firms, or financial institutions. The concept provides security to the issuing company against the risk of under-subscription.

• Written Agreement Requirement

The Companies Act mandates that underwriting must be backed by a written agreement between the company and the underwriter. This agreement should clearly state the number of shares or debentures underwritten, the underwriting commission, and other terms and conditions. A copy of this agreement must be filed with the Registrar of Companies. The written form ensures legal enforceability, transparency, and protection for both parties. Without such documentation, any oral agreement will not be considered valid under the law and cannot be enforced in a court of law.

• Underwriting Commission Limit

The Companies Act places a maximum limit on the underwriting commission a company can pay. For shares, the maximum commission is 5% of the issue price, and for debentures, it is 2.5% of the issue price, unless otherwise specified by the Articles of Association. The payment must be disclosed in the prospectus and should not exceed the rate mentioned in the Articles. This provision ensures that the company’s funds are not excessively drained in commissions and that the cost of raising capital remains reasonable and transparent.

• Disclosure in Prospectus

Full disclosure of the underwriting arrangements is compulsory in the company’s prospectus under the Companies Act. The disclosure must include the name of the underwriter, the number of shares or debentures underwritten, and the commission payable. This transparency helps potential investors evaluate the security of the issue and the extent of third-party backing. It also reduces the risk of misrepresentation or fraud. Non-disclosure can make the company liable for penalties and can also be treated as a violation of investor protection norms enforced by regulatory authorities like SEBI.

• Obligation to Take Up Unsubscribed Shares

Underwriters are legally obligated to take up the number of shares or debentures they have agreed to underwrite if the public fails to subscribe to them fully. This obligation ensures the company’s capital-raising goals are met without financial shortfall. The underwriter must make the payment within the stipulated time frame as agreed in the underwriting contract. Failure to do so may result in legal action by the company to enforce the agreement. This provision acts as the backbone of the underwriting system, ensuring reliability and trust between the issuer and the underwriter.

• Payment of Underwriting Commission

The underwriting commission can only be paid if it is authorized by the company’s Articles of Association and approved by the board of directors. Payment must be made in cash, by the allotment of shares or debentures, or partly in both, as stated in the agreement. The commission cannot exceed the prescribed limits and must be paid only after the shares or debentures have been allotted. These conditions prevent misuse of funds, ensure fairness, and maintain the financial discipline of the company in compliance with statutory requirements under the Companies Act provisions.

• Prohibition of Excess Allotment to Underwriters

Underwriters cannot be allotted more shares or debentures than what is required under the underwriting agreement, except when they voluntarily apply for more as part of the public issue. Allotting excess shares without proper application is considered a breach of the Companies Act. This restriction ensures fairness to other investors, prevents market manipulation, and maintains the credibility of the share allotment process. By following this guideline, companies avoid preferential treatment and uphold principles of equity and transparency in capital market transactions.

• SEBI Regulations and Companies Act Compliance

Although the Companies Act governs underwriting, companies must also comply with Securities and Exchange Board of India (SEBI) regulations. SEBI requires that underwriters be registered and meet specific capital adequacy norms. They must maintain records of their underwriting obligations, fulfill financial commitments promptly, and avoid conflicts of interest. This dual compliance ensures investor protection, enhances market stability, and improves corporate governance. Non-compliance with either set of rules can result in penalties, suspension from capital market activities, and legal consequences for both the company and the underwriter.