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Friday, October 19, 2018

What is Underwriting ........... and Underwriting agreement !

What happens when a Q is put to an ordinary man and an expert ?

While an Ordinary man would try and answer looking into various realms, Specialist’s answer would get constrained to the field of specialization.  He may be authentic, yet would be constricted to a specific set of ideas.  Now the Q is what is Underwriting ?

photo above : Bharat Insurance Building, Mountroad, Chennai

Those in Insurance industry transact Insurance business and call themselves  variously Insurers, Assurers, Underwriters, Risk Managers and so on.  Insurance primarily is a form of risk management providing protection against uncertain losses.  In a way it is the equitable transfer of a risk of a loss from one entity to another, in exchange of consideration called premium. Insurance Company is the one selling insurance; the rate determined for undertaking the risk is known as premium.  Insurance is a  contract whereby one person, the Insurer – promises and undertakes in exchange of consideration to indemnify the policy holder in the event of a loss or damage occurring due to certain specified perils.  There are sound theories of ‘law of large numbers’ and the like. 

The man at the helm, evaluates, analyses and determines whether the proposed risk should be accepted, if so on what terms and conditions and at what rates- that is Underwriting.  The term comes from the tradition of Lloyds of London, a historical Insurer who has been in business for centuries.  The function of the underwriter is not only to collect premium enriching the coffers of Insurers but also to ensure protection to the company's book of business from risks that they feel will make a loss and issue insurance policies at a premium that is commensurate with the exposure presented by a risk But Underwriting is not restricted to ‘Insurance alone’.  Broadly, Underwriting refers to the process that a large financial service provider (bank, insurer, investment house) uses to assess the eligibility of a customer to receive their products (equity capital, insurance, mortgage, or credit). 

Securities underwriting :  refers to the process by which investment banks raise investment capital from investors on behalf of corporations and governments that are issuing securities (both equity and debt capital).

Underwriting agreement : Securities-purchase contract between an underwriter or underwriting syndicate and an issuer of bonds or shares. Among other terms, it specifies the price at which the security will be offered to the public (public offering price), underwriter's profit margin (underwriting spread), and the date by which the payments must be settled (settlement date).

Definition of 'Underwriting Agreement' : A contract between a group of investment bankers who form an underwriting group or syndicate, and the issuing corporation of a new securities issue. The underwriting agreement contains the details of the transaction, including the underwriting group's commitment to purchase the new securities issue, the price that the underwriting group will pay to the issuing corporation and the initial resale price.
Investopedia explains 'Underwriting Agreement'  as : Underwriting agreement can be considered the contract between a corporation issuing a new securities issue and the underwriting group that has agreed to purchase and then resell the issue for a profit. The purpose of the underwriting agreement is to ensure that all of the players understand their responsibility in the process, thus minimizing potential conflict.

The main purpose of an underwriting agreement is to clarify all the terms and conditions associated with the underwriting process related to these new securities. To that end, both the corporation and the underwriter will make specific commitments regarding the stock issue.

Some more Underwriting :

Real estate underwriting : In evaluation of a real estate loan, in addition to assessing the borrower, the property itself is scrutinized. Underwriters use the debt service coverage ratio to figure out whether the property is capable of redeeming its own value or not....

Forensic underwriting : is the "after-the-fact" process used by lenders to determine what went wrong with a mortgage. Forensic underwriting refers to a borrower's ability to work out a modification scenario with their current lien holder, not to qualify them for a new loan or a refinance. This is typically done by an underwriter staffed with a team of people who are experienced in every aspect of the real estate field.

Have heard this with reference to study of large losses by Insurers also.

Sponsorship underwriting: will  refer to financial sponsorship of a venture, and is also used as a term within public broadcasting (both public television and radio) to describe funding given by a company or organization for the operations of the service, in exchange for a mention of their product or service within the station's programming.

With regards – S. Sampathkumar
10th Feb 2015.

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