Understanding Right Issue of Shares
A rights issue is an offer to existing shareholders to subscribe to new shares at a discount to the current market value. This article will help you to get a good understanding of the right issue concept as following,
1. What is the Right Issue of Shares?
2. Why companies conduct the Right Issue of Shares?
3. What is the benefit for the shareholders to subscribe to the Rights Issue of Shares?
4. Why should a shareholder be careful about subscribing to a right issue?
5. Benefit for the company to conduct the Right Issue of Shares?
6. Rights Issue Example
7. What is the Theoretical Ex-Rights Price (TERP) of a Share?
8. What Happens to the Share Price after the Right Issue?
9. Advantages of Right Issue of Shares
10. Disadvantages of Right Issue of Shares
What is the Right Issue of Shares?
A right issue of shares (rights offering) is where a company provides an offer to their existing shareholders to purchase additional shares at a discounted price on a particular ratio proportionate to their existing shareholding. The rights issue gives the option to the existing shareholders to purchase shares at a lower price on or before a specified date, to remain their existing shareholding percentage (without dilution). These are also known as subscription warrants.
Why Companies conduct the Right Issue of Shares?
A rights issue is an additional capital-raising method for companies. A company can raise capital by providing the right for their existing shareholders to subscribe to newly issued shares in proportion to their existing holdings.
What is the Benefit for the Shareholders to Subscribe to the Rights Issue of Shares?
- Shareholders can keep their percentage of shareholding remain the same.
- Shareholders can buy new rights issue shares less than the market price of a share.
- If a shareholder does not want to exercise the right then it is possible to sell the right. If so, their existing shareholding will be diluted after the right issue of shares.
- Existing shareholders can also choose to ignore the rights. Their existing shareholding will be diluted after the right issue of shares.
Why should a Shareholder be Careful about Subscribing to the Right Issue?
Even though shares are issued at a discounted rate, it might have a chance of falling the share price more than the discounted rate after the right share issue. This happens if shareholders are not confident of the company’s future and start to sell the existing shares available.
Benefit for the company to conduct Right Issue?
- Rights issue results in a higher equity base for the organization.
- Company can raise capital from their existing equity investors, rather than finding new investors.
Rights Issue Example
Mr. Robert is an existing shareholder of NYC Company. He owns 100 shares. The current market price per share of NYC Company is $500.
NYC Company decided to issues the right shares at a discount of 20% on the market price of the share. Rights issues shares are on 1 for every 4 existing shares. As a result, Robert can buy 25 right issue shares for $400 each.
Robert can either buy these shares or sell these to another.
What is the Theoretical Ex-Rights Price (TERP) of a Share?
The share price will be changed after the right issue. The new share price after the right issue is known as the theoretical ex-rights price (also known as ex-right price). It is calculated by sum the market value of existing shares and proceeds of right issues divided by the total number of shares after the right issue.
What Happens to the Share Price after the Right Issue?
Usually, the share price will be decreased than the market price which was available before the right issue, but not less than the right issue subscription (discounted) share price.