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Kembaraxtra-Islamic Finance-Islamic Capital Market-Definition of Underwriting
Underwriting new securities is the process in which a financial institution (usually an investment bank) agrees to take responsibility for selling newly issued securities (such as shares or bonds) to investors on behalf of a company.
What underwriting means
How underwriting works
Why underwriting is important
Example
In Islamic finance
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Underwriting new securities is the process in which a financial institution (usually an investment bank) agrees to take responsibility for selling newly issued securities (such as shares or bonds) to investors on behalf of a company.
What underwriting means
- When a company wants to raise money by issuing new securities in the primary market, it appoints an underwriter (bank).
- The underwriter guarantees that the company will receive the required funds, even if all the securities are not sold to the public.
How underwriting works
- The underwriter evaluates the company’s financial position and market conditions.
- It helps decide the issue price of the securities.
- The underwriter markets the securities to investors.
- If investors do not buy all the securities, the underwriter buys the unsold portion itself.
Why underwriting is important
- It reduces risk for the issuing company, as funding is assured.
- It increases investor confidence, since the issue is backed by a reputable bank.
- It ensures a successful IPO or public issue.
Example
- A company issues shares worth $100 million.
- An investment bank underwrites the issue.
- If the public buys only $80 million worth of shares, the underwriter purchases the remaining $20 million, ensuring the company still receives the full $100 million.
In Islamic finance
- Underwriting must be Shari’ah-compliant.
- The bank may earn a fee for underwriting services.
- The process must avoid interest (riba) and excessive uncertainty (gharar).
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