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WHAT IS A RIGHTS ISSUE?

April 16, 2024
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Time to raise some money!!!

 

 

A rights issue, also known as a rights offering, is a method used by companies to raise additional capital from existing shareholders. In a rights issue, a company offers its existing shareholders the opportunity to purchase additional shares at a discounted price, usually in proportion to their existing holdings.

 

When a company decides to carry out a rights issue, it typically sets a predetermined subscription price and the number of shares each shareholder is entitled to purchase. This information is outlined in the rights offering prospectus, which is distributed to existing shareholders. Shareholders then have the option to exercise their rights by purchasing the additional shares at the specified price within a specified subscription period.

 

The purpose of a rights issue is to allow existing shareholders to maintain their proportional ownership in the company and to raise capital without diluting their ownership stake. By offering the shares at a discounted price, the company provides an incentive for shareholders to exercise their rights and invest more in the company. The proceeds from the rights issue are typically used to fund expansion plans, repay debt, make acquisitions, or meet other financial obligations.

 

It's important to note that participation in a rights issue is optional for shareholders. If a shareholder chooses not to exercise their rights, they can either sell their rights to other investors in the market or let them expire. The rights issue may also be underwritten by investment banks or financial institutions to ensure that the company raises the intended capital, even if not all shareholders exercise their rights.

 

What happens to the share price when a company does a rights issue?

The impact on share price can vary depending on the specific circumstances and market conditions. Here are a few possible scenarios:

  1. When a rights issue is announced, the market typically adjusts the share price to reflect the upcoming issuance of new shares. The theoretical ex-rights price (TERP) is calculated to estimate the expected share price after the rights issue takes place. The TERP considers both the current share price and the discounted price at which the new shares are offered. Generally, the TERP is lower than the pre-rights issue share price.
  2. A rights issue results in the issuance of new shares, which increases the total number of shares outstanding. This increased supply of shares can lead to dilution of ownership for existing shareholders who do not participate in the rights issue. As a result, the existing shareholders' proportional ownership in the company decreases, which can put downward pressure on the share price.
  3. The impact on share price can also be influenced by market sentiment and demand for the company's shares. If the rights issue is viewed positively by investors as a means of raising capital for growth opportunities or reducing debt, it may have a neutral or positive effect on the share price. Conversely, if investors have concerns about the company's financial health or view the rights issue as a desperate measure, it could negatively impact the share price.
  4. During the subscription period of a rights issue, there can be increased trading activity and volatility in the company's shares. This volatility can be influenced by various factors, such as the level of participation from existing shareholders, overall market conditions, and investor sentiment. The share price may fluctuate in response to these dynamics until the rights issue is completed.

 

The above scenarios are general observations, and the actual impact on share price can vary significantly based on the specific circumstances and market conditions surrounding the rights issue.

 

Conclusion

I always maintain that a share price is just the value of the business divided by the number of shares.

  1. The value of the business is simply all the assets, minus the liabilities. With a rights issue cash flows into the business, thus assets go up.
  2. The number of shares goes up in a rights issue.
  3. If the numerator and denominator go up and down in the same proportions, the share price should not be affected materially by any rights issue, but market sentiment will ultimately determine what the share price does.

 

 


 


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