CAT / FIA FFA Syllabus D. Recording Transactions And Events - Rights issue. - Notes ^{10 / 14}

A rights issue is an issue of shares for cash.

These shares are usually issued at a discount to the current market price.

The 'rights' are offered to existing shareholders, who can sell them if they wish.

Advantages

• Raises cash

• Reserves are available for future dividend distribution

Disadvantages

• If a shareholder sells his rights, he will be losing (diluting) his control in the company

Illustration 1 - TERP

Cow Co. makes a 1 for 5 rights issue, at $2.50 (MV before issue made $3)

This market value just before the issue is known as the cum rights price.

What is the theoretical ex-rights price?

Solution

5 shares @ $3.00
1 share @ $2.50

So the value per share after the rights issue (TERP) is: $17.50/6 = $2.92