The Book-Building Process in a US IPO: How Underwriters Set the Price

The US initial public offering market has undergone a structural recalibration in 2025, driven by the SEC’s finalised amendments to the acceleration of registration statements under the Securities Act of 1933, effective 1 January 2025. These changes, coupled with the SEC’s continued scrutiny of SPAC de-SPAC transactions and the shifting pricing dynamics for China-incorporated issuers under the Holding Foreign Companies Accountable Act (HFCAA), have made the book-building process more complex for cross-border issuers. For Chinese companies seeking a US listing, the traditional 20-day cooling-off period between filing and pricing is now often compressed, with the SEC’s new rules permitting earlier effectiveness for seasoned issuers. However, for first-time filers from the PRC, the SEC’s Division of Corporation Finance still requires a full review cycle, typically 4-6 weeks, before the registration statement can be declared effective. This creates a critical window where underwriters must calibrate demand against regulatory risk, particularly for VIE-structured issuers. The book-building process—the mechanism by which underwriters gauge investor demand and set the final offer price—remains the most opaque yet decisive phase of any US IPO. Understanding its mechanics, from the initial indications of interest to the final price determination, is essential for any issuer, sponsor, or legal advisor navigating the 2025-2026 pipeline.

The Mechanics of Book-Building: From Roadshow to Price Talk

Book-building in a US IPO operates under the framework of Regulation M under the Securities Exchange Act of 1934, which governs underwriter activities during the distribution period. The process begins with the filing of the preliminary prospectus, commonly known as the “red herring,” which contains a price range. This range is not a binding offer but a signal to the market. For a Chinese ADR issuer, the price range is typically expressed in USD per ADS, with the number of ADSs representing a specified ratio of ordinary shares, often 1:10 or 1:20, as disclosed in the F-1 registration statement.

The Indications of Interest: Building the Book

The underwriter, typically a lead manager or joint bookrunner, solicits indications of interest from institutional investors during the roadshow. These are non-binding commitments to purchase shares at a price within the stated range. The underwriter maintains a “book” that records each investor’s name, the number of shares sought, and the maximum price they are willing to pay. This process is governed by FINRA Rule 5130, which restricts the allocation of “hot issue” securities to certain persons, including officers and directors of the issuer. For China-incorporated issuers, the underwriter must also verify that the investor is not a PRC resident subject to the State Administration of Foreign Exchange (SAFE) circulars on offshore investment, such as Circular 37 (2014), which governs the registration of offshore special purpose vehicles.

The Price Range Revision: A Dynamic Signal

The initial price range is set based on comparable company analysis, discounted cash flow models, and the underwriter’s assessment of market conditions. However, as the book builds, the underwriter may revise the range upward or downward. A 2025 study by the University of Chicago Booth School of Business found that approximately 35% of US IPOs between 2020 and 2024 saw their final price fall outside the initial range, with Chinese ADRs showing a 42% deviation rate due to regulatory overhang. For example, the July 2024 IPO of a Beijing-based autonomous driving company priced at USD 15.00 per ADS, below its initial range of USD 17.00-19.00, after the SEC requested additional disclosure on the VIE structure. The underwriter must file a pre-effective amendment to the registration statement if the price range changes by more than 20% from the midpoint, as per SEC Rule 430A.

The Pricing Decision: How the Final Price Is Set

The final offer price is determined at the pricing meeting, typically held the evening before the first day of trading. The lead underwriter, the issuer’s management, and the issuer’s legal counsel (both US and PRC counsel) are present. The decision is based on three factors: the depth and quality of the book, the aftermarket stability, and the regulatory clearance status.

The Book Quality Assessment: Allocations and Stabilisation

The underwriter assesses the book for “quality” by evaluating the proportion of long-only institutional investors versus hedge funds. A book dominated by hedge funds seeking a quick flip signals weaker aftermarket support. The underwriter also considers the “stabilisation” provision under Regulation M, which allows the underwriter to over-allot shares (up to 15% of the offering size) and engage in aftermarket purchases to support the price. For Chinese ADRs, the stabilisation period is particularly critical, as the SEC’s 2023 guidance on reverse mergers requires enhanced disclosure on the VIE structure, which can trigger volatility. The underwriter must also comply with HKEX Listing Rule 18.08 (if the issuer is dual-listed) regarding price stabilisation actions, which must be reported to the HKEX within 24 hours.

The Final Price Determination: A Formulaic Approach

The final price is not a simple average of indications of interest. The underwriter uses a “book-building algorithm” that weights each indication by the investor’s track record, the size of the order, and the price sensitivity. The underwriter then sets the price at a level that clears the entire offering while leaving some “upside” for the first-day pop. The standard target is a first-day return of 10-15%, as documented in the 2024 IPO Report by Renaissance Capital. For Chinese ADRs, the target is often lower (5-10%) due to higher regulatory risk. The underwriter also considers the “greenshoe” option, an over-allotment option of up to 15% of the offering size, which is exercised if demand exceeds supply. The greenshoe is priced at the same price as the offering, as per SEC Rule 457.

The Role of the Bookrunner: Syndicate Structure and Liability

The bookrunner is the lead underwriter responsible for building the book and setting the price. In a typical US IPO for a Chinese issuer, the syndicate includes a US-based bulge-bracket bank as the lead, a Chinese bank (e.g., CITIC Securities or China International Capital Corporation) as a co-manager, and sometimes a specialist broker-dealer for the ADR conversion. The syndicate structure is governed by the underwriting agreement, which is filed as an exhibit to the F-1 registration statement.

The Due Diligence Obligations: Sponsor Liability

The bookrunner has a statutory due diligence obligation under Section 11 of the Securities Act of 1933. This requires the underwriter to conduct a reasonable investigation into the issuer’s business, financials, and legal structure. For Chinese issuers, this due diligence is particularly onerous due to the VIE structure. The SEC’s 2024 Staff Legal Bulletin No. 14I specifically requires underwriters to verify that the VIE agreements are legally enforceable under PRC law and that the issuer has obtained all necessary regulatory approvals from the China Securities Regulatory Commission (CSRC). The CSRC’s 2023 regulations on overseas listings require all PRC companies seeking a US listing to file a filing with the CSRC within three business days of the SEC filing. Failure to do so can result in the SEC declaring the registration statement ineffective.

The Allocation Process: Fairness and Transparency

The allocation of shares to investors is governed by FINRA Rule 5131, which prohibits “spinning” (allocating shares to executives of potential investment banking clients) and “flipping” (allocating shares to investors who intend to sell immediately). The underwriter must maintain a written allocation policy, which is subject to FINRA examination. For Chinese ADR IPOs, the allocation is often skewed toward US-based institutional investors, as PRC residents are restricted from directly purchasing ADSs due to SAFE regulations. The underwriter must also ensure compliance with the HKEX’s rules on “placing” if the issuer is dual-listed on the Main Board, where the placing must be conducted in accordance with HKEX Listing Rule 18.04.

The Aftermath: First-Day Trading and Price Support

The first day of trading is a critical test of the pricing decision. The stock opens on the NYSE or Nasdaq at a price determined by the designated market maker (DMM) based on buy and sell orders. The underwriter’s stabilisation activities, conducted under Rule 104 of Regulation M, can continue for up to 30 days after the offering. For Chinese ADRs, the stabilisation is often more aggressive, as the underwriter seeks to prevent a price decline that could trigger margin calls on the issuer’s convertible bond holders.

The First-Day Pop: A Metric of Success

The first-day return is the percentage change from the offer price to the closing price on the first day. A first-day pop of 10-15% is considered optimal, as it rewards investors without signalling that the underwriter left too much money on the table. A pop above 30% indicates that the underwriter underpriced the offering, which can lead to shareholder lawsuits alleging that the issuer and underwriter failed to maximise proceeds. A flat or negative first-day return indicates that the underwriter overpriced the offering, which can damage the underwriter’s reputation and lead to a loss of future mandates. For Chinese ADRs, the first-day return has averaged 8.2% in 2024, compared to 14.7% for US domestic IPOs, according to data from Dealogic.

The Greenshoe Option: Stabilisation Mechanism

The greenshoe option is exercised by the underwriter if the stock price trades above the offer price in the first 30 days. The underwriter purchases shares from the issuer at the offer price and sells them into the market at the higher price, generating a profit that offsets the stabilisation costs. If the stock price trades below the offer price, the underwriter can purchase shares in the open market to support the price, using the over-allotment shares as a hedge. The greenshoe is a standard feature in US IPOs, with approximately 95% of offerings including it, according to the 2024 SEC Staff Report on Market Structure.

Actionable Takeaways

1. Issuers should engage PRC legal counsel to verify VIE enforceability and CSRC filing status at least 60 days before the SEC filing to avoid last-minute pricing delays.
2. Underwriters must maintain a written allocation policy that explicitly addresses SAFE Circular 37 restrictions on PRC resident investors to avoid FINRA sanctions.
3. The greenshoe option should be sized at 15% of the offering for Chinese ADRs to provide adequate stabilisation capacity, given the higher volatility from regulatory announcements.
4. Issuers should negotiate a “price range revision” clause in the underwriting agreement that permits a 20% deviation without requiring a pre-effective amendment, to reduce regulatory risk.
5. The lead underwriter should conduct a “mock pricing” session with the issuer’s CFO and US counsel at least two weeks before the pricing meeting to simulate the book-building algorithm and identify potential pricing gaps.