Greenshoe option

A greenshoe option, more formally an overallotment option, is a provision that lets IPO underwriters sell more shares than the original offering size, typically up to an additional fifteen percent, if investor demand turns out to be especially strong. The option is named after Green Shoe Manufacturing Company, the first issuer to use this structure.

The greenshoe gives underwriters a tool to help stabilize the stock's price once it starts trading. Underwriters typically sell the extra shares to investors at the IPO itself, which leaves them with a short position they later need to cover. If demand is strong and the stock trades above its offering price, underwriters exercise the option, buying the extra shares from the company at the offering price to cover that short. If instead the stock falls below its offering price shortly after the IPO, underwriters can choose not to exercise the option and instead buy shares back in the open market to cover their short position, which adds buying pressure right when the stock needs support.

For investors, a greenshoe option is a normal, expected part of most underwritten IPOs rather than a warning sign, and its use in the days after an IPO is one reason a newly public stock's price can be less volatile immediately after listing than it might otherwise be.