In the stock market, companies often require additional capital to expand operations, repay debts, or invest in new projects. One way they raise this capital is through a rights issue. But what exactly is a rights issue, and how does it work?
A rights issue of shares refers to the process where a company offers existing shareholders the opportunity to buy additional shares at a discounted price. Unlike other fundraising methods, rights issues give preferential treatment to current shareholders, maintaining their proportional ownership in the company.
The idea of a right share issue is rooted in fairness, allowing loyal shareholders to benefit from discounted prices. This move can help the company raise funds without diluting the ownership stakes of existing shareholders too much.
A rights issue involves offering additional shares to existing shareholders at a discounted price. This fundraising strategy enables companies to raise capital quickly and efficiently while giving existing shareholders an opportunity to maintain their proportional ownership. Here’s a detailed breakdown of how the process works:
The first step is the company’s announcement, which serves as a formal notification to shareholders and the public. This announcement includes critical information such as:
This announcement not only outlines the terms of the offer but also serves as a signal of the company’s intent, whether it is to strengthen its balance sheet, fund new projects, or address financial challenges.
The record date is a critical aspect of the rights issue process. It determines shareholder eligibility to participate in the offer. Only those who own shares on or before the record date are entitled to subscribe to the additional shares.
Investors who buy shares after the record date are not eligible for the rights issue, even if they own shares during the subscription period.
The entitlement ratio dictates the number of additional shares a shareholder can purchase relative to their current holdings. For example:
The entitlement ratio ensures proportional allocation of shares to maintain shareholder ownership structure. Companies use this ratio to strike a balance between raising the required funds and not overly diluting existing share value.
Once the rights issue is announced, there is a specific subscription period during which shareholders can decide to:
Shareholders need to act promptly, as the subscription period is typically limited to a few weeks. After this period, the company may offer unsubscribed shares to other investors.
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To fully understand the financial impact of a rights issue, let’s explore an example in detail:
A company announces a 1:3 rights issue at a discounted price of ₹50 per share. The current market price of the stock is ₹75 per share. A shareholder owns 300 shares.
Here’s how the calculation unfolds:
Since the entitlement ratio is 1:3, the shareholder can purchase 1 additional share for every 3 shares they own:
300 shares 13=100 additional shares.
The cost of purchasing the additional shares at the discounted price is:
100 shares 50 ₹/share=5,000₹
The total number of shares the shareholder will own after exercising their rights is:
300 existing shares +100 additional share=400shares.
Theoretical ex-rights price is calculated to reflect the adjusted average price of shares post-rights issue:
TERP = (30075) + (10050)400=22,500 +5,000400=68.75 ₹/ shares.
This calculation demonstrates that the average price per share decreases (from ₹75 to ₹68.75), benefiting the shareholder by lowering their cost of ownership while maintaining proportional value.
Rights issues are less expensive compared to public offerings, as they don’t require extensive underwriting.
Unlike external fundraising methods, the company ensures existing shareholders retain voting rights and proportional ownership.
The streamlined process allows the company to raise funds quickly, addressing immediate financial needs.
Shares are offered below market value, providing a profit opportunity for shareholders.
Shareholders who participate maintain their proportional ownership in the company.
Shareholders may feel compelled to invest additional money to maintain their ownership stake.
Market sentiment can lead to fluctuations in share price, especially if investors view the rights issue as a sign of financial weakness.
If the rights issue is undersubscribed, the company may fall short of its fundraising goals.
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Participating in a right share issue involves the following steps:
Verify you were a shareholder on the record date. Only eligible shareholders can subscribe to the rights issue.
Carefully read the company’s offer document for details about the:
Shareholders have three choices:
Pay for the shares you wish to purchase before the subscription period ends.
In 2020, Reliance Industries launched India’s largest rights issue, raising ₹53,124 crores. The issue price of ₹1,257 per share was significantly lower than the market price of ₹1,450, encouraging participation from shareholders.
During the 2008 financial crisis, HSBC raised ₹53,124 crores through a rights issue. While initially perceived as a sign of financial strain, the move helped the bank stabilise and recover.
Shareholders who don’t participate may see their ownership stake diluted, impacting earnings per share (EPS).
Rights issues can signal financial challenges, causing short-term declines in stock price. However, successful utilization of funds can lead to long-term growth.
After the rights issue, shares trade at an adjusted price reflecting the dilution and discounted offering.
A rights issue is a strategic way for companies to raise capital while offering shareholders the chance to invest at a discounted price. However, careful evaluation of the company’s financial health and the purpose of the rights issue is crucial before participating.
For expert guidance on rights issues and stock market investments, trust Jainam Broking Ltd. to help you make informed decisions and achieve your financial goals.
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A rights issue of shares refers to a process where a company offers its existing shareholders the opportunity to purchase additional shares at a discounted price, in proportion to their current holdings. This helps the company raise capital while allowing shareholders to maintain their ownership percentage.
In a right share issue, a company announces the offer, specifying the entitlement ratio, rights issue price, and record date. Shareholders eligible as of the record date can either:
The rights issue price is the discounted price at which the additional shares are offered to existing shareholders. It is typically lower than the market price to incentivize participation.
A right share is the additional share offered to existing shareholders under a rights issue. These shares are usually offered at a discounted price and in a specific ratio to the shareholder’s current holdings.
The calculation for a rights issue involves determining how many additional shares a shareholder can purchase based on the entitlement ratio, the cost of these shares, and the adjusted share price post-rights issue.
A rights issue can cause short-term volatility in the company’s share price. Market sentiment often perceives it as a sign of financial need, but if the funds are used effectively, it can lead to long-term growth. The share price adjusts after the rights issue based on the theoretical ex-rights price (TERP).
The term “re share” often refers to the entitlement share offered to shareholders during a rights issue. These shares allow shareholders to maintain their ownership proportion and benefit from the discounted price.
The stocks mentioned here are for informational purposes only and should not be considered recommendations. Please do your research and analyze stocks thoroughly before making any investment decisions. Jainam Broking Limited does not guarantee assured returns or future performance of any securities or instruments.
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