What is a Green Shoe Option in an IPO?

Last Updated: 5 Sep 2025

Most investors are familiar with an IPO (Initial Public Offering), which is the first time a company sells its shares to the public. IPOs can be launched by new companies or by established businesses going public for the first time. Before investing, it is important to carefully read the company’s offer document, which provides details about its business, financials, risks, and corporate structure. Among the technical terms in the document, one that often appears is the “Green Shoe Option”, a clause designed to stabilise share prices after listing.

Let’s try to understand the green shoe option meaning in detail.

Over-allotment option

The green shoe option allows companies to intervene in the market to stabilise share prices during the 30-day stabilisation period immediately after listing. This involves the purchase of equity shares from the market by the company-appointed agent in case the shares fall below the issue price.

The green shoe option is exercised by a company making a public issue. The issuer company uses a green shoe option during IPO to ensure that the share price on the stock exchanges does not fall below the issue price after the issue of shares.

A green shoe is a kind of option that is primarily used at the time of IPO or listing of any stock to ensure a successful opening price. Any company that decides to go public generally prefers the IPO route, which it does with the help of big investment bankers, also called underwriters. These underwriters are responsible for making the public issue successful and finding buyers for the company’s shares. They are paid a certain amount of commission to do this work.

The green shoe option is a clause contained in the underwriting agreement of an IPO. The green shoe option is also often referred to as an overallotment 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.

From an investor’s perspective, an issue with a green shoe option provides more probability of getting shares, and also that the listing price may show relatively more stability compared to the market.

Origin of the Greenshoe

The term “greenshoe” comes from the Green Shoe Manufacturing Company, now called Stride Rite Corporation, which was founded in 1919. It was the first company to include the greenshoe clause in its underwriting agreement. In a company prospectus, the legal term for this is “over-allotment option”, as extra shares are set aside for underwriters in addition to the original issue. This is the only method allowed by the US Securities and Exchange Commission (SEC) for underwriters to stabilise a new issue’s price after the offering. The SEC introduced it to make IPO fundraising more efficient and competitive.

Guidelines for Exercising the Green Shoe Option

The green shoe option is designed to stabilise share prices after an IPO. It allows underwriters to manage over-allotment shares to prevent the price from falling below the issue price. SEBI introduced this mechanism in India in 2003 to maintain price stability during the initial trading period. Companies use this option when market conditions are uncertain or when IPOs are oversubscribed and demand is volatile.

Key guidelines include:

• Promoter Share Lending: The promoter lends shares to the stabilising agent, limited to 15% of the total issue size. These shares are used solely for stabilisation and are returned after the process.
• Appointment of Stabilising Agent: A stabilising agent, usually a merchant banker or book runner, is appointed to handle price support operations on behalf of the company.
• Stabilisation Period: Stabilisation can continue up to 30 days from the date of allotment to maintain price stability.
• Escrow Account: Funds used for stabilisation must be kept in a separate escrow account to ensure transparency.
• Over-allotment of Shares: Extra shares (up to 15% above the original issue) are borrowed from promoters and used if prices drop or demand exceeds expectations.
• Market Monitoring: The stabilising agent continuously monitors share prices and intervenes if they fall below the issue price.
• No Intervention Above Issue Price: If shares trade above the issue price, the stabilising agent does not buy any shares.
• Role of Underwriters: Underwriters ensure the IPO’s success, help determine issue price, and structure over-allotment. In volatile markets, their role becomes critical to prevent undersubscription or price crashes.

How the Green Shoe Option Works

The green shoe option process works through over-allotment of shares. For example, if a company plans to issue 1 lakh shares, it may allot 1.15 lakh shares, borrowing the extra 15,000 shares from promoters. For investors, it makes no difference whether shares come from the original allotment or borrowed shares.

The money received from the over-allotment is kept in an escrow account. Once stabilisation ends, the borrowed shares are returned to the promoters. This ensures no additional shares are permanently issued and maintains transparency.

Role of the Stabilising Agent

The stabilising agent begins work after trading starts on stock exchanges. Their main responsibilities include:

• Buying Shares to Stabilise Prices: If shares trade below the offer price, the agent buys them using funds from the escrow account. This prevents sharp declines.
• Returning Shares to Promoters: Shares purchased during stabilisation are returned to promoters once the price stabilises.
• Monitoring Market Movements: The agent continuously tracks the share price to determine if intervention is needed.
• No Action Above Issue Price: If shares trade above the issue price, the stabilising agent does not intervene.

Green Shoe Option in Action

Offering a green shoe option is common in underwriting agreements. In 2009, realty companies like Sahara Prime City, DB Realty, Lodha Developers, and Ambience used the option to stabilise post-listing prices. It prevented extreme fluctuations and provided smoother trading.

The green shoe option in IPO benefits both companies and investors. It reduces volatility, boosts investor confidence, and improves the success of IPOs. Understanding this mechanism is important for anyone investing in IPOs, as it affects post-listing price stability and overall market confidence.

Conclusion

The green shoe option is an important tool in IPOs to stabilise share prices after listing. It allows underwriters to manage over-allotment shares and prevent prices from falling below the issue price. For investors, it adds stability and improves the chances of receiving shares. Introduced in India by SEBI, it is widely used by companies to reduce volatility in the early trading days. Understanding this option helps investors make informed decisions when participating in IPOs.

Frequently Asked Questions

What are the advantages of the green shoe option?

The green shoe option helps stabilise the share price after an IPO, reducing volatility in the market. It also increases investor confidence and improves the chances of getting shares during high demand.

What is the difference between the green shoe and brown shoe option?

A green shoe option allows underwriters to buy extra shares to stabilise prices, usually up to 15% of the issue. A brown shoe option, on the other hand, involves issuing additional new shares beyond the original allotment and is less common.

What is the time limit for greenshoe options?

The green shoe option can be exercised during the 30-day stabilisation period after the shares are listed. After this period, the company or underwriters cannot use it to manage share prices.