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Cost to issuers - negotiated basis vs competing bid

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Some of the empirical research suggests that the net interest cost to issuers is likely to be somewhat higher when a new issue is sold on a negotiated basis (the negotiations being with a single team of underwriters) than on the basis of competing bids from a number of underwriting syndicates. If this is often true, under what circumstances would it be reasonable for issuers to choose to use the negotiated process, despite the probable higher interest costs?

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Solution Summary

The solution discusses negotiated bid vs competitive bid and examines under what circumstances it would be reasonable for issuers to choose to use the negotiated process, despite the probable higher interest costs.

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The material has been taken from the following sources:

Source: http://www.pamij.com/4_4_pdf/99_4_4_3_s.pdf

Source: Paul A. Leonard (1996). "An Empirical Analysis of Competitive Bid and Negotiated Offerings of Municipal Bonds." Municipal Finance Journal 17 (Spring): 41.

A competitive bond offering is a solicitation of bids from potential purchasers, principally underwriters. A financial advisor is generally employed to assist in the process since a competitive sale is a time consuming process and many issuers sell bonds infrequently. In a competitive sale the structure of the bond issue (including the principal redemption schedule and coupon interest rates) is determined by the issuer before the competitive bids are solicited.

In a negotiated offering, the underwriter is selected first. The interest costs and other terms of the bond issue, including underwriter compensation, are negotiated between the issuer and the underwriter. The underwriter handles most of the administrative activities associated with the bond ...

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