When a retail investor receives an IPO allotment and the share price falls on listing day, one question follows: could that loss have been avoided? Regulation 57 of the SEBI ICDR Regulations, 2018 says yes, through the green shoe option.

Introduction

A decision taken before SpaceX’s June 2026 NASDAQ listing added USD 10.7 billion to the offering: the inclusion of a green shoe option. Goldman Sachs and Morgan Stanley underwrote a base offering of 555.6 million shares and sold a further 83.3 million shares. The stock rose 19 percent on its first trading day, and the additional allocation was taken up in full within two weeks. Total proceeds reached USD 85.7 billion, making it the largest IPO in recorded capital-market history.

In India, the green shoe option (GSO) is governed by Regulation 57 of the SEBI ICDR Regulations, 2018 and has been available since 14 August 2003. Yet, as its very name suggests, it remains only an “option”, and that discretion lies at the heart of the framework’s limited effectiveness.

This article traces the origins of the green shoe option, explains how it operates at the transaction level, compares India’s framework with the US model, and considers why, despite being available to every mainboard issuer, it remains commercially unattractive.

Origin: How a shoe company named a Wall Street mechanism

The term “green shoe” traces its origin to the Green Shoe Manufacturing Company, founded in Rockport, Massachusetts, in 1919. During its 1963 equity offering on the New York Stock Exchange (NYSE), the underwriters included an over-allotment clause in the underwriting agreement. This allowed them to sell additional shares to meet excess demand and support the share price after listing.

The clause gave rise to the term “greenshoe”, which is now widely used for an over-allotment option. In the United States, the mechanism operates within the stabilization framework under Rule 104 of Regulation M. Although the Green Shoe Manufacturing Company was later renamed Stride Rite and eventually became part of Wolverine Worldwide, its original name continues to live on in global capital-market practice.

This market stabilization measure is adopted by UK, Germany and Singapore. SEBI introduced the GSO in India through an amendment to the SEBI (Disclosure and Investor Protection) Guidelines, 2000, effective August 2003; the framework now forms part of the SEBI ICDR Regulations, 2018. Tata Consultancy Services Limited became the first Indian company to use the mechanism in 2004, one year after its introduction. Across jurisdictions, the objective is the same: to give underwriters or merchant bankers a structured tool to stabilize and support the share price during the first 30 days after listing.

Mechanism: How the Green Shoe Option Works

The process is put in place before the IPO opens. The issuer appoints one of the merchant bankers to the issue as the Stabilizing Agent (SA), which conducts the stabilization activity. To facilitate the over-allotment, the SA borrows additional shares from the promoters or pre-issue shareholders, subject to the regulatory ceiling of 15% of the total issue size. Those borrowed shares are then allotted to investors over and above the base issue.

For instance, assume a company undertakes an IPO of 100 shares at an issue price of ₹100 per share. Under the Green Shoe mechanism, the SA borrows an additional 15 shares from the promoters or pre-issue shareholders. Accordingly, investors are allotted 115 shares instead of the original 100 shares.

The structure may be represented as follows:

 The additional 15 shares allotted to investors create a temporary obligation on SA to return an equivalent number of shares to the promoters or pre-issue shareholders who lent them. The subscription amount received from investors towards these additional shares (15 shares × ₹100 = ₹1,500) is maintained separately in the GSO Bank Account and is utilized for stabilization activities, if required.

Once the company is listed, the shares enter the secondary market, where price discovery takes place based on actual demand and supply of shares. Unlike the IPO process, where the price is determined through book building, the post-listing market is influenced by factors such as investor sentiment, profit booking by allottees chasing quick listing gains, liquidity conditions and broader market movements. These factors may result in significant volatility and can push the stock price below the issue price immediately after listing.

Under the GSO, the SA is permitted to undertake stabilization activities during the prescribed stabilization period of 30 days to manage price volatility after listing. During this period, the manner in which the temporary short position created through over-allotment is ultimately settled depends upon the movement of the share price. Broadly, three possible outcomes may arise depending upon how the stock has traded.

Case 1: Share price remains above the issue price throughout the stabilization period

Assume that after listing, the share price continues to trade above the issue price of ₹100 during the stabilization period. In such circumstances, SA does not purchase shares from the secondary market because acquiring shares at a price higher than the issue price would not be economically efficient. Since no shares are purchased from the market, SA continues to have an outstanding obligation in respect of the 15 shares borrowed.

This obligation is settled by exercising GSO, pursuant to which the SA acquires the additional shares from the issuer at the original issue price. These shares enable the SA to close the short position without incurring a loss and are subsequently transferred to the promoters or pre-issue shareholders who had lent the shares. The issuer, in turn, receives additional proceeds corresponding to the shares issued under the GSO.

 Accordingly:

• Investors continue to hold 115 shares allotted under the IPO;

• Promoters/pre-issue shareholders receive shares;

• The borrowing arrangement is converted into a permanent increase in the issue size.

• Therefore, the final issue size increases to 115 shares (100 original shares + 15 Green Shoe shares)

In this scenario, the Green Shoe Option functions primarily as an over-allotment mechanism, allowing the issuer to raise additional capital where market demand supports the issue price.

Case 2: Share price remains below the issue price throughout the stabilization period

Assume that after listing, the share price declines to ₹90 and continues to remain below the issue price during the stabilization period. In such circumstances, SA utilizes the funds available in the GSO Bank Account received from IPO proceeds to purchase shares from the secondary market. These purchases provide buying support by absorbing selling pressure and simultaneously enable the SA to cover its outstanding obligation towards the borrowed shares.

For example, SA purchased all 15 shares at market purchase price of ₹90 per share (15 × ₹90) for ₹1,350. The shares purchased by the SA are credited to the GSO Demat Account and subsequently returned to the promoters or pre-issue shareholders against the shares originally lent by them.

 Accordingly:

• The SA completely settles the borrowed share position through market purchases;

• The promoters/pre-issue shareholders receive their shares back;

• No additional shares are issued by the company, and the final issue size remains 100 shares.

In this scenario, the Green Shoe Option operates purely as a price stabilization mechanism.

Case 3: Share price initially falls but subsequently recovers during the stabilization period

The third scenario represents the most practical outcome in volatile market conditions, where the share price may experience initial selling pressure but subsequently recover.

Assume that after listing, the share price falls below the issue price and the SA undertakes stabilization purchases. However, before the expiry of the stabilization period, the share price recovers above the issue price.

For instance, assuming that SA borrows 15 shares from promoters and pre-issue shareholders and allotted in IPO proceeds to investors. Subsequently SA purchases 10 shares from the market at ₹90 per share, the amount utilized from the GSO Bank Account would be ₹900, calculated as 10 shares × ₹90 per share.

These 10 shares are credited to the GSO Demat Account and returned to the promoters or pre-issue shareholders. After this market purchase, SA’s outstanding obligation reduces as follows:

 The remaining 5 shares, which were not purchased from the market, are settled through fresh issuance by the issuer to SA. The SA remits the issue price of ₹100 per share for such shares to the issuer, after which the shares are transferred to the promoters or pre-issue shareholders who had lent the shares, thereby extinguishing the outstanding obligation arising from the over-allotment.

The final settlement is therefore:

 Through this combination of market purchases and fresh issuance, the entire temporary short position created through over-allotment is settled.

Any balance remaining in the GSO Bank Account after meeting permissible stabilization expenses and completing the required regulatory adjustments is dealt with in accordance with Regulation 57 of the SEBI ICDR Regulations, 2018. Any surplus amount is transferred to the Investor Protection and Education Fund (IPEF) established by SEBI. Neither the SA, the issuer nor the promoters are permitted to retain any economic benefit arising from the stabilization activity.

This last point, the prohibition on profit retention, is the defining feature of the Indian framework is the doctrine of unjust enrichment: neither the SA, nor the issuer, nor the promoters may retain any profit arising from the stabilization process and the primary reason merchant bankers have consistently found the mechanism unattractive. In the US, the SA retains stabilization profits. In India, Regulation 57(9) mandates every rupee of surplus goes to the IPEF. SEBI’s design reflects its objective that the GSO is a tool for investor protection not a revenue opportunity for intermediaries.

India versus Abroad: Structural Differences

The fundamental difference between the Indian and international green shoe frameworks comes down to how much risk the underwriter can take on and how much it can earn from doing so.

In the US and UK, SA may retain gains arising from purchasing shares below the issue price to cover the overallotment position, creating a direct financial incentive to conduct stabilization activity. In India, any surplus transfers to the IPEF; the SA earns only a fixed contractual fee, removing the profit motive from stabilization activity and protecting investor.

That profit motive unlocks something India does not permit: the naked short position. A naked short position is a short sale of shares not backed by the green shoe option. Unlike the covered short, where the lead manager has borrowed shares from promoters and holds a GSO to fall back on, the naked short carries no such cover. The lead manager sells shares it has neither borrowed nor has any contractual right to acquire at a fixed price. The entire position is exposed to market risk.

In the US, a lead manager that believes demand for the issue is weaker than the issue size will create this position over and above the covered green shoe position. If the post-listing price falls as expected, it buys those shares back from the secondary market below the issue price and closes the position at a profit. If the price rises, it must buy from the market at whatever price the market demands and takes the loss in full. The naked short is a directional bet on weak post-listing demand. It profits when the lead manager is right and costs when it is wrong.

The covered short works differently and sits within the GSO structure itself. The underwriter over-allots shares within the 15 percent limit. If the price rises, it acquires fresh shares from the issuer at the issue price to close the position. If the price falls, it buys from the market at a lower price, returns the shares to the lender, and in the US, keeps the spread. That spread is the SA’s commercial reward for running the stabilizing activity.

In India, neither the profit nor the naked short is available, and the two are structurally connected. A merchant banker who cannot retain stabilization profits has no financial basis to take on the additional uncapped market risk a naked short requires. The Indian framework permits only the covered over-allotment mechanism, where shares are borrowed from promoters or pre-issue shareholders and the SA operates strictly within the GSO Bank Account proceeds.

Why uptake is low and what it would take to change

The case for wider use of the GSO is strongest not in ordinary IPOs, but in large, OFS-heavy and retail-sensitive offerings where post-listing price pressure can cause immediate investor loss. LIC India and Hyundai Motor India are useful reminders: even marquee issuers and record-sized offerings are not immune from listing below the issue price. In volatile market conditions, where valuation concerns, weak secondary-market sentiment, foreign fund outflows or geopolitical shocks can affect listing performance, the absence of a stabilization mechanism leaves retail investors exposed precisely when protection is most needed.

India’s regulatory framework for GSOs is not absent; it is simply underutilized. The reason is less about regulatory design and more about commercial economics. As long as participation remains commercially unattractive, the framework will struggle to achieve its intended purpose.

The below structural frictions explain the gap between regulatory intent and market practice.

1. Uncertain outcome: The GSO pool is capped at 15 percent of the issue size and the stabilization window runs only 30 days from listing. If selling pressure exceeds the pool, the SA runs out of capacity before the market stabilizes. That ceiling makes issuers reluctant to commit to a mechanism that can visibly fail in the transactions where it is most needed.

2. Market interference: Aftermarket stabilization prevents the stock from falling to its natural market level during the 30-day window. An investor looking to buy below the issue price will find the SA’s buying activity holding the price up. Some market participants view the GSO less as investor protection and more as a temporary distortion of genuine price discovery.

3. Compliance burden: Two separate accounts, daily exchange filings, strict share return timelines, SEBI reporting, and legal documentation make the GSO operationally heavy. When participation is optional, that burden tips the calculation firmly toward skipping it.

4. No profit, full risk: This is the defining constraint. The SA must buy shares if the price falls but cannot monetize any upside arising from successful stabilization activity. Every rupee of stabilization surplus goes to the IPEF under Regulation 57(9). The merchant banker assumes full execution risk, regulatory exposure, and operational complexity. The fixed advisory fee is all it earns in return. There is no upside.

Making the GSO mandatory for every IPO would be blunt regulation. The better approach is targeted reform. SEBI should consider a comply-or-explain GSO framework for large IPOs, pure OFS issues, offers with substantial retail participation, or issues above a prescribed size. It should also consider a disclosed borrowing fee for promoters or pre-issue shareholders lenders and a more meaningful activity-linked fee for SA. For large issues, the stabilization window could be extended to 45 or 60 days, subject to strict exchange reporting, surveillance and public disclosure.

India doesn’t need to replicate the US model. Naked short positions and stabilization profits retained by merchant bankers have no place in India’s investor-protection framework. But if Regulation 57 is to become a real stabilization tool, the incentive structure must be recalibrated. Promoters or pre-issue shareholders need a clear commercial basis to lend shares, and merchant bankers need proportionate compensation for the execution risk, regulatory scrutiny and liability exposure they assume. The next reform should preserve SEBI’s supervisory architecture while making the GSO commercially workable. Only then can the green shoe option move from a rarely used provision to a meaningful investor-protection instrument in India’s primary market.