In the dynamic world of the stock market, equity shares play a pivotal role. Companies often make multiple types of equity offerings, including bonus shares, sweat equity shares, and rights shares, each with its unique features. Let us explore everything about the right issues of shares.
What is the Right Issue of Shares?
When a company seeks additional capital while maintaining the proportional voting rights of existing shareholders, it initiates a right issue of shares.
Right Issue of Shares
A right issue of shares involves a company granting existing shareholders the right, not the obligation, to purchase additional shares directly from the company at a discounted price rather than through the secondary market. The number of additional shares available for purchase is based on the shareholder’s existing holdings.
Features of Right Issue of Shares
- Corporations opt for rights issues to raise capital without incurring underwriting fees.
- Existing shareholders enjoy preferential treatment, having the right to purchase shares at a reduced price before a specified date.
- These rights shares can be traded among interested market participants.
- The number of additional shares available correlates with existing shareholdings.
- Existing shareholders who choose not to participate may face dilution of their holdings.
Reasons for a Right Issue of Shares
Companies resort to rights issues for various purposes, such as paying off debt, acquiring assets, or funding expansion. Rather than taking on more debt, they opt for equity to avoid interest payments. Rights issues provide a swift and efficient way to raise capital, especially for projects where debt financing is not ideal.
Example of a Right Issue of Shares
Suppose Rahul owns 600 shares of LMN Ltd., each valued at INR 20. The company announces a rights issue in a 3-for-8 ratio, offering rights shares at a discounted price of INR 15 per share. For every 8 shares held at INR 20 each, an existing shareholder is entitled to 3 rights shares at INR 15.
Rahul’s Portfolio Value (before rights issue) = 600 shares x INR 20 = INR 12,000 Number of right shares to be received = (600 x 3/8) = 225 Price paid to buy rights shares = 225 shares x INR 15 = INR 3,375 Total number of shares after exercising rights issue = 600 + 225 = 825 Revised Value of the portfolio after exercising rights issue = INR 12,000 + INR 3,375 = INR 15,375 Share price post-rights issue = INR 15,375 / 825 = INR 18.60 (approximately)
Please keep in mind that while theory suggests a share price of INR 18.60 post-rights issue, actual market values can fluctuate due to various market dynamics.
Advantages and Disadvantages of Rights Offerings
Advantages: Rights offerings benefit companies requiring capital for various purposes, offering a cost-effective alternative to underwriting. There’s no need for shareholder approval, and market interest often surges. Existing shareholders also enjoy the opportunity to buy more shares at a discount.
Disadvantages: Rights offerings may face shareholder disapproval due to concerns about dilution. For companies, the costs and complexities associated with rights offerings might outweigh the benefits.
This article provides valuable insights into rights issues in India, catering to Indian investors seeking clarity in this financial landscape.
FAQs
The decision to invest in a rights issue depends on factors like the company’s performance, growth potential, and valuation. It can be a good choice for existing shareholders seeking to increase their holdings at a discounted price, but they should also consider alternative investments and potential dilution.
To obtain shares in a rights issue, you must be an existing shareholder on the record date. You’ll receive a letter of offer from the company, allowing you to subscribe partially or fully to the rights issue by filling out an application form and making the payment. Alternatively, you can let your rights lapse or transfer them to others.
Yes, you can sell shares acquired through a rights issue once they’re credited to your demat account. However, the ability to sell them immediately depends on the company’s listing status. Listed companies allow immediate trading, while unlisted ones may require waiting until they get listed or provide an exit option.
Rights issues offer advantages such as enabling companies to raise capital cost-effectively, allowing existing shareholders to increase their stake at a discount, facilitating trading of rights entitlements, and demonstrating management’s confidence in the company’s future.
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Disclaimer: Investments in the securities market are subject to market risks; read all the related documents carefully before investing.