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A Reverse Greenshoe is a special provision in an IPO prospectus, which allows underwriters to sell shares back to the issuer. If a 'regular' greenshoe option is, in fact, a call option written by the issuer for the underwriters, a reverse greenshoe is a put option.

Reverse greenshoe has exactly the same effect on the share price as a traditional option but is structured differently. It is used to support the share price in the event that the share price falls in the post-IPO aftermarket. In this case, the underwriter buys shares in the open market and then sells them back to the issuer, stabilizing the share price.

In certain circumstances, a reverse greenshoe can be more practical form of price stabilisation than the traditional method.

How regular greenshoe option works

  • Regular greenshoe option is a call option.
  • The underwriter has sold 115% of shares and thus 15% short.
  • The IPO price is set to be $10.
  • If it falls to $8, the underwriter does not exercise the option, buying the shares at $8 in the market to cover his short position at $10. Buying a large bloc of shares stabilizes the price.
  • If the price grows to $12, the underwriter exercises the option, buying shares from the issuer at $10 and closing his short position at $10.

How reverse greenshoe option works

  • Reverse greenshoe option is a put option for a given amount of shares (15% of the issued amount, for example) held by the Underwriter "against" the issuer (if primary) or against the majority shareholder/s (if secondary).
  • The underwriter sells 100% of the issued stock.
  • The IPO price is set to be $10.
  • If it falls to $8, the underwriter purchases X amount of shares in the market and then exercises the option, buying the shares at $8 in the market and selling back to the issuer at $10. Buying a large bloc of shares stabilizes the price.
  • If the price grows to $12, the underwriter does not purchase stock or exercises the option.

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