Valuation of Underwriting Agreements for Raising Capital in the Japanese Capital Market

In Japan, it has long been a common practice among corporations to issue new shares at par value and offer them to shareholders without underwriting agreements. However, in January 1969, Nihon Gakki (a musical instrument maker) successfully offered new shares at the market price through underwriting agreements. Other corporations followed suit and the capital raised through this method in fiscal year 1972 amounted to ¥861 billion, accounting for more than 65 percent of the total capital raised during the year. At present, over 70 percent of Japanese corporations raise new equity capital at the market price via the negotiated underwriting method. Almost all underwriters employ a “firm commitment” agreement, in which the underwriter agrees to purchase the whole issue from the firm at a particular price for resale to the public. The agreement is normally signed on the day before the issue announcement, at which time the offering price to the public is specified. As soon as the offering price is filed with the Tokyo Stock Exchange, the underwriter is precluded from selling the shares above this price. Though the offering price initially was highly discounted, between 1970 and 1980 this discount rate gradually decreased from 15 percent to 5 percent of the daily stock price (see Table 1). The final settlement with the underwriter usually takes place fourteen to nineteen days after the registration statement becomes effective. At that time, the company receives the proceeds of the sale, minus the underwriter's fee. This fee, which is usually fixed at 3.5 percent of the money to be raised, consists of a compensation fee, a managing fee, a sales fee, and a brokerage fee, none of which can be separated on the contract.