a right issue Flashcards
A RIGHTS ISSUE DEFINED
A rights issue is a way in which a company can SELL NEW SHARES in order to raise capital. Shares are offered to existing shareholders in proportion to their current shareholding, respecting their PRE EMPTION RIGHTS. The price at which the shares are offered is usually at a discount to the current share price, which gives investors an incentive to buy the new shares — if they do not, the value of their holding is diluted.
WHAT IT DOES
A rights issue by a highly geared company intended to strengthen its balance sheet is often a bad sign. Profits are already low (or negative) and future profits are diluted. Unless the underlying business is improved, changing its capital structure achieves little.
WHAT IS DOES 2
A rights issue to fund expansion can usually be regarded somewhat more optimistically, although, as with acquistions, shareholders should be careful because management may be empire-building at their expense
WHAT IT DOES 3
The rights are normally a tradeable security themselves.This allows shareholders who do not wish to purchase new shares to sell the rights to someone who does. Whoever holds a right can choose to buy a new share (exercise the right) by a certain date at a set price.
A RIGHTS ISSUE AND SHREHOLDERS
Some shareholders may choose to buy all the rights they are offered in the rights issue. This maintains their proportionate ownership in the expanded company, so that an x% stake before the rights issue remains an x% stake after it. Others may choose to sell their rights, diluting their stake and reducing the value of their holding.
IF RIGHTS ISSUE NOT TAKEN UP
If rights are not taken up the company may (and in practice does) sell them on behalf of the rights holder.
It is possible to sell some rights and exercise the remainder. One possibility is selling enough rights to cover the cost of exercising those that are not sold. This allows a shareholder to maintain the value of a holding without further expense (apart from dealing costs). This does not mean that a shareholder can entirely neutralise the effect of a rights issue, only the element described by the formula below.
