Backstop Purchaser (Security Issuance) - Explained
What is a Backstop Purchaser?
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Table of ContentsWhat is a Backstop Purchaser?How does a Backstop Purchaser Work? Pros and Cons of a Backstop Purchaser
What is a Backstop Purchaser?
In a rights offering that entails the use of a backstop by an issuing company, an entity that purchases the leftover of an unsubscribed portion of shares from the rights offering is a backstop purchaser. Usually, a company that wants to raise capital from a rights offering can get a backstop from an underwriting organization or an investment bank, this backstop implies that the organization will purchase any remainder of the unsubscribed shares that are unsold on the open market, these are thereafter sold to standby entities. The entity that makes this purchase is backstop purchaser.
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How does a Backstop Purchaser Work?
A backstop purchaser is also known as a standby purchaser, they are common in standby underwritings in which an underwriting organization or investment bank agrees to buy and publicly sell the remaining portion of unsubscribed shares that are unsold in the market. In standby underwriting, an issuing company has no say in how an unsold portion of unsubscribed shares are sold, these are determined by the underwriting organization.
Backstop purchasers enter a conscious agreement to purchase unsubscribed shares at prices which are necessarily not lower than that of the rights offering. According to NYSE, rights offerings are public offering for cash which are not based on the approval of shareholders. Once an issuing company rounds up three rounds of proceedings in a rights offering, a backstop purchase can occur.
Existing shareholders can buy the shares at a discounted market price in the first round. In the second round, these shareholders can subscribe for unsubscribed shares before the issuing company then enters a backstop agreement in the third round. It is in this third round that the underwriting agency purchases the unsold unsubscribed shares from the issuing company and then decides to sell to standby purchasers.
Backstop purchasers do not need a licensing requirement, they buy unsubscribed shares in a standby purchase based on the terms of existing shareholders in a rights offering. If a backstop purchaser is affiliated with the company that issued the unsubscribed shares or its shareholders, certain constraints might be faced.
Pros and Cons of a Backstop Purchaser
When an issuing company has a actual goal it wants to meet through the sales of a number of unsubscribed shares and is unable to meet the goals, a backstop agreement can be made. The backstop purchaser acquires the remainder of the unsold unsubscribed shares but this is often at a price or premium amount.
Because a backstop purchase assumes the risk of the unsubscribed shares, a flat standby fee and per-share amount is paid as compensation. Another reason why an issuing company is likely to consider a backstop is if the stock price is vulnerable. In cases of price volatility, shareholders are often skeptical about exercising their rights or subscribe to an unsubscribed shares due to price instability, this can make a company resort to a backstop arrangement.
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