Investing Answers Building and Protecting Your Wealth through Education Publisher of The Next Banks That Could Fail
Investing Answers Building and Protecting Your Wealth through Education Publisher of The Next Banks That Could Fail

Best Efforts

What it is:

Best efforts is a legal agreement between a securities underwriter (usually an investment bank) and a securities issuer, whereby the underwriter agrees to do the best it can to sell as many of the issuer’s securities as possible to the public. 

How it works (Example):

A best efforts agreement does not guarantee that all of the securities in the issue must be sold. An issuer and underwriter agree upon a minimum level of sales and once the minimum has been reached, the underwriter is not responsible for any unsold securities. 

Let’s assume Company XYZ plans to go public and it hires an investment bank to become their underwriter and arrange the offering. The investment bank’s job as the underwriter is to get the best price it can for the issued shares, and sell as many as possible. 

Underwriters determine the best price and size in an offering by pitching their clients’ offering to institutional investors -- these are called road shows. The underwriter then considers these expressions of interest when advising the issuer on an appropriate offering size and price.

In a best efforts agreement, the underwriter also handles the actual sale of the securities. Sometimes the underwriter forms a syndicate and enlists the help of other banks to help sell the issue -- increasing the sales effort behind the issue and reducing the pressure on each bank to sell to its client base. 

SEC Rule 10b-9 and Regulation S-K require underwriters to disclose a best efforts agreement in the issuer’s prospectus, and how long the offering is open. If the underwriters have committed to sell a minimum number of securities, this too must be disclosed in the prospectus. Additionally, Rule 15c2-4 requires underwriters to deposit the proceeds from a best-efforts offering into an escrow account or special bank account until the issuer and the underwriter determine that all the underwriter’s requirements are satisfied. 

Why it Matters:

In a best efforts agreement, not only does the issuer not know the exact amount of capital raised until the offering is closed, the issuer bears the risk of not selling enough securities to raise the desired capital. This not only wastes money on underwriting and filing fees, it leaves the issuer with the same need for cash that prompted the sale of the securities in the first place. 

Best efforts offerings are commonly open longer than firm-commitment offerings -- allowing more time for potential negative news or events to occur that would make the offering seem overpriced -- exacerbates these risks.

Best efforts offerings are considered riskier than firm-commitment offerings by most analysts and investors -- at times too risky. 

Related Terms View All
  • Auction Market
    Though most of the trading is done via computer, auction markets can also be operated via...
  • Best Execution
    Let's assume you place an order to buy 100 shares of Company XYZ stock. The current quote...
  • Book-Entry Savings Bond
    Savings bonds are bonds issued by the U.S. government at face values ranging from $50 to...
  • Break-Even Point
    The basic idea behind break-even point is to calculate the point at which revenues begin...
  • Calendar Year
    If Company XYZ starts its fiscal year on January 1 and ends its fiscal year on December...