The Boat Works has decided to take the company public by offering a total of 150,000 shares of common stock to the public. The firm has hired an underwriter who arranges a firm commitment underwriting and suggests an initial selling price of $22 a share with a spread of 8 percent. As it turns out, the underwriters only sell 122,400 shares.

Required:

1. How much cash will the firm receive from its first public offering?

The Boat Works will receive $3,036,000 (150,000 x $22 x 0.92) from the underwriter because the underwriter arranges a firm commitment underwriting with an 8% spread rate (100 - 8 = 92%).

Explanation:

In underwriting arrangements, a firm commitment underwriting is a commitment by the underwriter to purchase all the securities from an IPO (initial public offering) from the issuer.

The underwriter then sells the securities to the public. The benefit the underwriter derives is the spread rate which reduces the selling price at which the shares will be sold to the public.

The implication of a firm commitment underwriting is that the underwriter will assume liability for the unsold 27,600 shares (150,000 - 122,400). The interesting aspect of a firm commitment underwriting is that the issuer is guaranteed complete sale of the IPO.