Options of Treasury Shares and Escrowed Shares
A company may decide to offer an incentive to an underwriter to provide risk capital as a principal, rather than having the underwriter merely act as an agent for the offering. A junior company (primarily a non-dividend-paying company) can grant the underwriter specified treasury share options.
Treasury Share Options and Escrowed Shares Explained
This technique involves the use of escrowed shares that serve as payment for properties, goods, or services.
- Escrowed Shares: Shares held by an independent trustee in trust for its owner. These shares cannot be sold or transferred unless special approval is given. They can be released from escrow only with the permission of relevant authorities such as a stock exchange or securities administrator.
Purpose and Benefits
Escrowing shares ties the value of the shares held by these shareholders to what happens to the property used to obtain these shares. It also prevents the owners of the shares from selling them before a proper market can develop. This restriction ensures stability in the secondary market performance of the new issue after the completed offering. Escrowed shares maintain full voting and dividend privileges for these companies.
Key Features
- Independent Trustee: Handles the escrowed shares, ensuring unbiased management and adherence to rules.
- Special Approval Requirement: Ensures shares are managed under strict, regulated conditions to maintain market confidence.
- Voting and Dividend Rights: Holders of escrowed shares maintain their rights to vote on company matters and receive dividends.
Frequently Asked Questions (FAQs)
What are treasury shares?
Treasury shares are shares that were once part of the outstanding shares and were subsequently repurchased by the company. These shares do not pay dividends, have no voting rights, and cannot be included in EPS calculations.
How do escrowed shares function?
Escrowed shares are held by a third-party trustee and cannot be sold or transferred until specific conditions are met. These shares are often used as a form of payment for assets or services and ensure certain stability in the market by preventing immediate resale.
What purpose do escrowed shares serve?
They stabilize secondary market performance post-offering, prevent immediate resale, which can dilute stock value, and tie the shares’ value to the related asset or service value.
Glossary of Terms
- Underwriter: A financial specialist who evaluates and assumes another party’s risk for a fee, usually by buying new bonds or shares and selling them to investors.
- Escrow: A financial arrangement where a third party holds and regulates payment of funds or assets until a specific condition is met.
- Secondary Market: The financial market where previously issued securities such as stocks, bonds, options, and futures are bought and sold.
- Junior Company: Typically a young company which is in stages prior to fully commercialized production, often not yet paying dividends.
Key Takeaways
- Treasury shares are re-acquired shares that hold no voting or dividend rights and are not considered in earnings per share calculations.
- Escrowed shares are often payment for services or properties, held by an independent trustee, and require specific conditions for release, which helps provide market stability.
- Underwriters may receive treasury share options as incentives, primarily in junior companies, to provide risk capital.
flowchart TD
A[Issue of Shares] --> B[Escrowed Shares
Held by Trustee]
B --> C(Conditions Met?
No? Then Untradeable)
B --> D(Approval
Received?
Yes? Then Tradable)
E[Secondary
Market Performance] --> |Stable| A
Further Reading and References
📚✨ Quiz Time! ✨📚
## What is the primary reason a company offers treasury share options to an underwriter?
- [ ] To reduce the company's liabilities
- [ ] To increase the liquidity of the stock
- [x] To provide an incentive for the underwriter to provide risk capital as a principal
- [ ] To attract retail investors
> **Explanation:** Companies offer treasury share options to underwriters as an incentive for them to provide risk capital as principals, instead of merely acting as agents for the offering.
## What are escrowed shares primarily used for?
- [ ] Increasing company's market capitalization
- [ ] Attracting retail investors
- [x] Serving as payment for properties, goods, or services
- [ ] Allowing immediate trading by shareholders
> **Explanation:** Escrowed shares are used as payment for properties, goods, or services and are held under restrictions by an independent trustee until the appropriate authorities release them.
## Who holds escrowed shares in trust?
- [ ] The company's CEO
- [ ] The underwriter
- [ ] The company's board of directors
- [x] An independent trustee
> **Explanation:** Escrowed shares are held in trust by an independent trustee to ensure they are not sold or transferred without special approval.
## Under what condition can escrowed shares be sold or transferred?
- [ ] When the company's stock price reaches a certain level
- [ ] When the company declares dividends
- [x] With special approval from appropriate authorities
- [ ] After one year of issuance
> **Explanation:** Escrowed shares can only be released from escrow and sold or transferred with special approval from authorities like a stock exchange or securities administrator.
## What is the role of escrowing shares in the context of stability in the secondary market?
- [ ] It increases the share price significantly
- [ ] It allows unrestricted trading immediately after issuance
- [ ] It reduces the voting and dividend privileges of shareholders
- [x] It ensures some stability in the secondary market performance of the new issue after the offering
> **Explanation:** Escrowing shares help ensure stability in the secondary market performance by preventing the owners from selling them before a proper market can develop.
## Do escrowed shares maintain voting and dividend privileges?
- [x] Yes
- [ ] No
- [ ] Only voting privileges
- [ ] Only dividend privileges
> **Explanation:** Escrowed shares maintain full voting and dividend privileges for these companies.
## What is one of the benefits of escrowing shares for shareholders?
- [x] The value of the shares is tied to the success of the property or asset used to obtain these shares
- [ ] Shareholders can sell their shares immediately
- [ ] There are no restrictions on the transfer of shares
- [ ] It increases instant liquidity for shareholders
> **Explanation:** Escrowing shares ties the value of these shares to what happens to the property or asset used to obtain them, thus benefiting the shareholders if the property succeeds.
## What type of company is most likely to grant specified treasury share options to an underwriter?
- [ ] A well-established blue-chip company
- [x] A junior company
- [ ] A dividend-paying company
- [ ] A non-profit organization
> **Explanation:** Junior companies, often non-dividend-paying, are the primary type of companies that grant specified treasury share options to underwriters.
## Which of the following is NOT a characteristic of treasury share options offered to an underwriter?
- [ ] They act as an incentive for risk capital provision
- [ ] They can involve escrowed shares
- [ ] They maintain full voting and dividend privileges
- [x] They can be freely sold on the secondary market upon issuance
> **Explanation:** Treasury share options often include escrowed shares, which cannot be sold freely on the secondary market immediately upon issuance.
## How do escrowed shares affect the underwriters' approach to a new issue?
- [ ] They reduce the underwriters' risk
- [ ] They increase the underwriters' fee
- [ ] They decrease the company's stock price
- [x] They incentivize underwriters to provide risk capital as principals
> **Explanation:** Escrowed shares, when combined with treasury share options, incentivize underwriters to provide risk capital as principals rather than merely acting as agents for the new issue.