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What is a Green Shoe Option?

A green shoe option is a clause contained in the underwriting agreement of an initial public offering (IPO). Also known as an over-allotment provision, it allows the underwriting syndicate to buy up to an additional 15% of the shares at the offering price if public demand for the shares exceeds expectations and the stock trades above its offering price.

How Does a Green Shoe Option Work?

As the underwriter has the ability to increase supply if demand is higher than expected, a greenshoe option can create price stability during an IPO.

Some IPO agreements do not include greenshoe options in their underwriting agreements. This is usually the case when the issuer wants to fund a specific project at a pre-determined cost and does not want to be responsible for more capital than it originally sought.

Why Does a Green Shoe Option Matter?

A green shoe option can create greater profits for both the issuer and the underwriting company if demand is greater than expected. It also facilitates price stability.

The Green Shoe Company, now called Stride Rite Corp., was the first issuer to allow the over-allotment option to its underwriters, hence the name.

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Paul Tracy
Paul Tracy

Paul has been a respected figure in the financial markets for more than two decades. Prior to starting InvestingAnswers, Paul founded and managed one of the most influential investment research firms in America, with more than 3 million monthly readers.