This content is from: Local Insights

Reintroducing the green shoe option in Colombia

Carlos Fradique-MendezLaura Villaveces Hollmann
Although the term green shoe came to be known in international markets more than 70 years ago, when the Green Shoe Manufacturing Company first implemented an over-allotment option as a price stabilisation mechanism in a Colombian offer, no such mechanisms have ever been fully implemented until very recently.

In May 2013, Colombian cement company Cementos Argos, used a price stabilisation mechanism for the first time in its preferred share offer, which totalled 1.6 billion pesos ($800,000) after transaction managers exercised a green shoe option. The green shoe option was allowed in this transaction by the Colombian regulator in light of the particularities of the structure, including the fact that the offer was structured as a simultaneous offer, and was implemented as a two-tranche process.

A green shoe option allows the underwriter to oversell or short up an amount of shares if it seems that these are trading below the offering price. In this way, the underwriter helps stabilise the price, while increasing or decreasing the supply of shares according to the initial public demand.

Recent developments in Colombia tend to allow for additional price stabilisation mechanisms such as discretional allocation of the securities in bookbuilding offerings. While this may prove controversial because of the power it gives underwriters over the allocation which could be eventually misused to create kickbacks, discretional allocation may at the same time be beneficial for the market as it may improve price formation. While bookbuilding regulations in Colombia do not expressly provide for this type of discretional allocation, they do not forbid it either, so local issuers are starting to take advantage of these opportunities. We expect to see further development in this matter as a result of an offer process that we expect to be approved shortly.

Discretional allocation allows the determination of the amount of the issue after the bookbuilding process is over and the price has been determined. Therefore, it allows the issuer or underwriter to play with the demand and supply of the securities, improving the behaviour of the securities in the secondary market and avoiding underpricing. If demand is high during the bookbuilding process, the total amount of the issuance may be allocated to allow investors who are not allocated shares to acquire them in the secondary market, fostering liquidity; and, if demand is lower, fewer shares should be allocated in order to maintain liquidity in the secondary market.

These new practices are expected to greatly contribute to the advancement and sophistication of the Colombian securities market, and they mark an important step towards the adoption of international standards that will hopefully be used by several local issuers in the future.

Carlos Fradique-Méndez and Laura Villaveces Hollmann

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