Rights issues

[Lewylewylewy]

Hi all,

I've been reading about the advantages and disadvantages of rights issues and I'm just trying to understand the share dilution aspect...

Where do the shares come from that are issued? Are they out of the company's portfolio, or is it a split off everyone's shares to make new shares, then the new ones make up the rights issue? ... Or something else

[macduffy]

They are an addition to the company's capital, subscribed/paid for by new cash. Sometimes called "cash issues" for that reason or a "rights" issue because (usually) the rights to subscribe accrue to current shareholders in a proportionate allocation.

Not to be confused with bonus issues or share splits or share consolidations.

[Lewylewylewy]

Thanks for the response.

So why does it dilute your shareholding if you don't buy in?

[777]

Thanks for the response.

So why does it dilute your shareholding if you don't buy in?

There are more shares and you have the same number. Therefore your holding has been diluted.

[Kees]

http://www.investopedia.com/articles/stocks/05/062905.asp
good article on it.

[Harvey Specter]

Thanks for the response.

So why does it dilute your shareholding if you don't buy in?Say there are 100 shares, you own 10 (10% of company) and it does a 1:1 rights issue.

The company creates 100 new shares. If you dont take up, you still own 10 shares, but now out of 200 shares so only 5% of company.

[Lewylewylewy]

Dang, so when I buy a bunch of shares, the management of the company can just make extra shares so that I end up with pretty much nothing... entirely at their discretion?! Seems unfair.

I always assumed that they just sold off some of the ones that are owned by the company themselves.

What's to stop the company just selling shares, then doing a rights offer at a high price so it's not worth taking, just to dilute shareholders down to nothing or get their money off them?

[Kees]

were else do you think they get the $ to farm in or start production . that's what's being part of a company is all about you either support them or not.

[blackcap]

Dang, so when I buy a bunch of shares, the management of the company can just make extra shares so that I end up with pretty much nothing... entirely at their discretion?! Seems unfair.

I always assumed that they just sold off some of the ones that are owned by the company themselves.

What's to stop the company just selling shares, then doing a rights offer at a high price so it's not worth taking, just to dilute shareholders down to nothing or get their money off them?

Harvey Spectres example was good but it did forget one thing. The company itself is worth more (rights issue takes in cash) so your 5% of the company is still "worth" (in theory) what your initial 10% was. So you might be diluted but your $ value is the same.

[peat]

What's to stop the company just selling shares, then doing a rights offer at a high price so it's not worth taking, just to dilute shareholders down to nothing or get their money off them?

Because unless the rights price is attractive no one will buy them and the shares wont end up being issued

[Harvey Specter]

Model my simple scenario with a share price of $1 (company worth $100). What happens if rights issues at 0.8, at $1 and at $1.20.

[winner69]

Model my simple scenario with a share price of $1 (company worth $100). What happens if rights issues at 0.8, at $1 and at $1.20.

Jeez under one scenario my $10 worth of shares might not be worth $10 after the rights issue (in theory)

[GTM 3442]

Harvey Spectres example was good but it did forget one thing. The company itself is worth more (rights issue takes in cash) so your 5% of the company is still "worth" (in theory) what your initial 10% was. So you might be diluted but your $ value is the same.

You will be disadvantaged in any instance where a payout is on a "per share" basis

[blackcap]

You will be disadvantaged in any instance where a payout is on a "per share" basis

Not sure what you mean. Company has 100 shares at $1 per share. you own 10% of company. Company is valued at $100 (100 shares at $1 per share).

Company does a 1:1 rights issue at $1 per share.

You do not participate. But your proportion is taken up by underwriter.

Company receives $100 in cash and is now worth $200. Company issues 100 shares and now has 200 shares on issue.

You own 5% now (10 shares / 200) of a company worth $200 so your stake is still worth $10.

[Lewylewylewy]

Thanks, that's a perfect explanation :)

So I guess rights issue is good if they're raising money for growth, or bad if they're raising money because there are issues. Rather, the rights issue isn't bad, but is indicative of something bad in the later case.

[kiora]

Thanks, that's a perfect explanation :)

So I guess rights issue is good if they're raising money for growth, or bad if they're raising money because there are issues. Rather, the rights issue isn't bad, but is indicative of something bad in the later case.

You've got it LLL. Its can be a golden opportunity to buy if you trust the management & growth storey ;)

[macduffy]

The example given works well for a simple situation. In practice though, the value of the existing capital will be more or less than the face value. If more, then failure to take up rights will result in dilution of one's holding.

"In theory there is no difference between theory and practice. In practice, there is!"

;)

[kiora]

And all of the above demonstrates the importance of having some understanding of the competence and integrity of management and directors. Do they have a track record - good or not so good? Experience i

Yes to that wholeheartedly

[Harvey Specter]

Not sure what you mean. Company has 100 shares at $1 per share. you own 10% of company. Company is valued at $100 (100 shares at $1 per share).

Company does a 1:1 rights issue at $1 per share.

You do not participate. But your proportion is taken up by underwriter.

Company receives $100 in cash and is now worth $200. Company issues 100 shares and now has 200 shares on issue.

You own 5% now (10 shares / 200) of a company worth $200 so your stake is still worth $10.You have only modeled one situation. No point modelling th Rights issue at $1.20 as no sane person would take up the offer.

But most rights issues are at a discount to guarantee it is fully subscribed. So 100 new shares at 0.8 means the company is now has 200 shares worth a total of $180, so your 10 shares are now only worth $9, so you have lost $1 of wealth by not taking up the offer.

Companies dont care it is offered at a discount as they set the price and the number of shares issued, and can argue you are not diluted as you can take up the offer.

[winner69]

You have only modeled one situation. No point modelling th Rights issue at $1.20 as no sane person would take up the offer.

But most rights issues are at a discount to guarantee it is fully subscribed. So 100 new shares at 0.8 means the company is now has 200 shares worth a total of $180, so your 10 shares are now only worth $9, so you have lost $1 of wealth by not taking up the offer.

Companies dont care it is offered at a discount as they set the price and the number of shares issued, and can argue you are not diluted as you can take up the offer.

10 out of 10 for me then - i got yesterdays challenge right

[blackcap]

You have only modeled one situation. No point modelling th Rights issue at $1.20 as no sane person would take up the offer.

But most rights issues are at a discount to guarantee it is fully subscribed. So 100 new shares at 0.8 means the company is now has 200 shares worth a total of $180, so your 10 shares are now only worth $9, so you have lost $1 of wealth by not taking up the offer.

Companies dont care it is offered at a discount as they set the price and the number of shares issued, and can argue you are not diluted as you can take up the offer.

Was just trying to keep it simple Harvey. I understand the complications of a discounted issue. However in your example the rights that you receive also have a value and these can normally be sold on market for ( Theoretical ex rights price: TERP - rights issue price) which would be 10 cents (TERP of .90 - .80) so you would then receive this $1 by selling these on market. Again simplifying the issue and a rights issue normally signals "problems" with the company (needs to raise capital at a discount) so you usually lose out by not taking up..... although in the case of WYN etc you "win" by not taking up the rights. Sometimes its better not to throw good money after bad... or better to be diluted by save $ in the bank.

[macduffy]

Again simplifying the issue and a rights issue normally signals "problems" with the company (needs to raise capital at a discount) so you usually lose out by not taking up..... although in the case of WYN etc you "win" by not taking up the rights. Sometimes its better not to throw good money after bad... or better to be diluted by save $ in the bank.

Oh, for the days when a cash issue usually signalled that a company was growing and the rights issues were snapped up by eager shareholders!

:mellow:

[Harvey Specter]

Was just trying to keep it simple Harvey. I understand the complications of a discounted issue.Just thought i would complete the picture given they are normally at a discount. The rights aren't always tradable and if they are, for a small shareholder the minimum brokerage may may it costly.

[blackcap]

for a small shareholder the minimum brokerage may may it costly.

Indeed have had that problem on many an occasion. Sometimes just not worth it to sell, and esp in Aus to take up, used to involve going to the bank for a bank cheque and all sorts of hefty and annoying fees. Bit easier these days with Online multi currency accounts and the like but I hear they may soon be going to charge for this service too.
Like Macduffy said, o for the days where a rights issue was snapped up by eager shareholders.
These days more often than not it signals to me a "stay well clear of this one" signal.