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Tuesday, 3 May 2022

Rights Issue of shares - Definition, Benefits, Eligibility and Prices

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 A rights issue is an invitation to the existing shareholders to buy additional shares of the company at a discounted price within a specific time frame.







Content:

  1. Rights Issue meaning
  2. Rights Issue eligibility
  3. Rights Issue Date
  4. Why rights issue?
  5. Rights Entitlements
  6. Rights Issue options
  7. Rights Issue Procedure
  8. Rights issue benefits
  9. Rights issue disadvantages
  10. Types of rights issue
  11. Rights Issue - How to apply?
  12. Rights issue impact on share price
  13. Conclusion
  14. FAQs

Rights Issue Meaning

A rights issue is a primary market offer to the existing shareholders to buy additional shares of the company on a pro-rata basis within a specified date at a discounted price than the current market price.

It is important to note that the rights issue offer is an invitation that provides an opportunity for existing shareholders to increase their shareholding. It is a right that a shareholder may or may not choose to exercise and not an obligation to buy the shares.


Rights Issue Eligibility

Unlike initial and follow-up public offering, the rights issue is not open for the general public but only to existing shareholders of the company. A company announces a record date in case of a rights issue. To be eligible to qualify as an existing shareholder for the rights issue, one must own the shares of the company as on the record date. The shares become ex-rights one day before the record date. If you buy the shares on or after the ex-date, you will not be eligible to receive rights entitlements as you would not qualify as an existing shareholder of the company as on record date. (considering Trade date +2 settlement)

For example, a company offering a rights issue announces 18th August 2020 as the record date, one must own the shares of the company in their Demat account as on that date. If one buys the shares on 17th August, the person will not be considered as an existing shareholder in company books even when he buys stock before the record date as the credit of shares in Demat will happen on 19th August. The shares become ex-rights from 17th August.


Rights Issue Date

  • Record Date

    A record date is a cut-off date to determine eligible shareholders for the rights issue.

  • Issue Opening Date

    The issue opening date is a date when one can start applying for the rights issue.

  • Issue Closure Date

    The issue closing date is the cut-off for applying for the rights issue. No applications can be made post the issue closure date.

  • Rights Entitlement Trading Dates

    These are the on-market renunciation of rights entitlements dates within which the rights entitlements can be traded on the stock exchange. The trading commences with issue opening date and generally closes 3-4 working days before the issue closure date.

  • Allotment Date

    The allotment date is when the company finalizes the allotment based on the applications received and the Demat holding list of the rights entitlements.

  • Date of credit

    The credit date is when the rights shares are credited to the Demat account once the allotment is finalized.

  • Date of commencement of trading or Listing date

    This is the date when the rights issue shares will get listed on the stock exchange and trade along with other equity shares.


Why rights issue?

A company issues rights shares to raise additional capital. The most common reasons for a company to prefer rights issue over other public offerings is as follows.

  1. To reduce the debt-equity ratio of the company.
  2. Cash strapped companies in need of capital and not wanting to increase the debt burden by taking any loans.
  3. For company expansion, acquisition, takeovers or other general corporate purposes.

Rights Entitlements

A company offering rights issue will credit the rights entitlement to eligible shareholders in proportion of their existing holdings. Rights entitlements (RE) is a temporary credit of shares done to the eligible shareholder's Demat account that allows the shareholders to apply or trade for that many numbers of shares.

The credit of RE in the Demat account does not put an obligation on the shareholder to compulsorily buy the rights.


Rights Issue Options

A right issue is an offer for shareholder to increase their shareholder of the company which he can accept or reject and has every right to choose from one of the below options:

  1. Exercise the right in full and apply for the eligible rights share.
  2. Exercise the right in full and apply for the eligible rights share as well as additional rights share.
  3. Ignore the RE fully and let the rights lapse. No action is required in this case.
  4. Exercise partial rights and let the remaining rights lapse.
  5. Exercise partial rights and transfer the remaining rights to other interested investors. This process of transfer or sale of RE is called renunciation of rights.
  6. Transfer or sell the entire RE to other interested investors.

Note:

The credit of RE does not mean you own the rights share. The existing shareholder or the buyer of the RE (known as renouncee) need to apply for the rights share based on the RE in their account.

The allotment for additional rights share in option 2 will be based on the issue subscription status and thus not guaranteed.


Rights Issue Procedure

Earlier the rights issue was a long duration process taking about two months for a company to complete the entire issue . Recently in January 2020, SEBI has issued new guidelines to streamline the rights issue process and reduce the timeframe for rights issue completion to 31 days by cutting on the timelines for various processes and introducing the dematerialization of RE.

Steps in a Rights Issue Process:

  1. Dispatch/Upload of application forms by the issuer, registrar, exchanges on their website.
  2. The credit of RE in Demat account of eligible shareholders.
  3. Interested investors/renouncees to submit the application form to apply for rights issues.
  4. Allotment and credit of rights issue shares in Demat account post reconciliation of RE Demat holding list and applications received.

Rights Issue Benefits

The rights issue offers various benefits to the shareholder as well as the company.

Benefits for the company

  1. Rights issue is the fastest mode of raising capital for the company.
  2. It is a low-cost affair for the company as company can save on the underwriters fees, advertisement expenses.
  3. The confidence of the existing shareholders is retained by making the discounted offer to existing owners as payback for being part of the company.
  4. The company can raise additional funds without increasing the debt burden.

Benefits for the Shareholders

  1. Rights issues provide an opportunity for existing shareholders to increase their stake in the company at a lesser price than the current market price.
  2. The rights issue retains the control of the company with existing shareholders when subscribed by the existing shareholders without renouncing their rights to outsiders.

Rights Issue Disadvantages

  1. The rights issue would result in dilution in the value of holdings of the existing shareholders.
  2. One of the reasons, the company looks to issue rights share is the need for cash on account of being cash strapped. This may sometimes give a wrong signal to investors that a company is struggling which may impact the reputation of the company and the share price.
  3. The rights issue would increase the number of shares of a company spreading the profit across that many shares impacting earning per share (EPS).

Types of rights issue

The rights issue can be classified into 4 types:

  1. Fully paid rights issue

    A fully paid rights issue is where an applicant is required to pay the entire issue amount at the time of application.

  2. Partly paid rights issue

    A partly paid rights issue is where an applicant is required to pay only a partial amount at the time of application. The balance amount is to be paid as and when subsequent calls are made by the company.

The above types of rights issue decide the terms of payment of an issue.

  1. Renounceable rights issue

    A renounceable rights issue can be easily transferred or sold to other investors in the open market. A RE holder can opt to transfer his rights in case he does not want to subscribe to his rights.

  2. Non-renounceable rights issue

    A non-renounceable rights issue cannot be transferred or sold to anyone. In such cases, a RE holder not willing to exercise his right to buy the rights share will have the only option to give up his rights and let the RE lapse.

Generally, most companies issue renounceable rights.


Rights Issue - How to apply?

The interested investors can apply for the rights issue online or offline using the ASBA facility or R-WAP (Registrar's Web-based Application Platform) facility. SEBI has recently introduced the R-WAP facility as a temporary arrangement to ease the process of application in these pandemic times.

Making an application through ASBA process

  1. Investors need to submit the application form received from the issuing company either physically or online to SCSB by downloading the form from the website of SCSB, registrar, exchanges, or company. In case of non-accessibility to the application form in the worst case, investors can also apply on a plain paper. However, this would restrict investors from renouncing their RE.
  2. As a pre-requisite to apply through this mode, investors are required to have an ASBA enabled bank account with an SCSB.

Making an application through R-WAP process

  1. Investors need to fill in the online application form available on R-WAP.
  2. As a pre-requisite to apply through this mode, investors are required to have a UPI facility enabled or an active internet banking account.

Important Points to Note:

  1. The R-WAP facility is only for resident investors.
  2. The payment for application through R-WAP should not be made using a third-party account.
  3. Ensure to mention correct PAN, depository, beneficiary, and bank details (ASBA or UPI) on the application form to avoid any issues.
  4. Application on plain paper is not allowed to apply through the R-WAP facility.

Rights Issue Impact on Share Price

When a company offers the right issue its share price gets diluted and is likely to go down post the issue due to an increase in the number of shares floating in the market. The price can be theoretically derived using a mathematical formula as per below and is known as Theoretical ex-rights price (TERP). It is important to note that this is just an estimated share price post the rights issue completion and can differ from the actual market price depending on the market sentiments. The downfall in the price can be temporary and can take a U-turn if the company is utilizing proceeds for expansion and investors see good prospects in the company.

TERP = (Rights share * Offer price + Existing shares * Market price) / Total number of shares

For example, ABC company announces rights shares in the ratio of 1:5 i.e. one share for every 5 shares held at a discounted price of Rs. 250. The current market price of Rs. 300. Based on this, the TERP can be derived as per below to estimate a rough share price post the rights issue.

Estimated Ex- Rights Price Issue can be (1*250) + (5*300) / 6 = 291.67

The security can be expected to trading around Rs.291.67 ex-rights.


Conclusion

The rights issues are gaining popularity recently with SEBI streamlining the process of rights issues and many companies looking to opt to issue rights nowadays to raise additional capital. The investors should not get attracted just by discounts offered by the company but also should have knowledge of the company's performance and the reason why the company is issuing rights before subscribing to the issue.

Learn more about Rights Issue

  • Rights Issue Entitlement
  • Rights Issue Glossary - Definitions, Abbreviations and Meaning
  • Rights Issue Review
  • Latest Rights Issue

Frequently Asked Questions

  1. 1. What is a rights issue?

    A rights issue is an offer to the existing shareholders to purchase additional shares of the company at a discounted price. The rights issue is made in proportion to the existing holdings and is required to be subscribed within a specific period failing which the rights lapse.

    Key features of a rights issue:

    1. The rights issue is a primary market issue.
    2. The offer is made to the existing shareholders and not to the general public.
    3. It is the right of the shareholder and not an obligation to buy the additional shares.
    4. The rights can be transferred or sold if the existing shareholder is not interested in accepting the offer.

  2. 2. Who can apply for rights issue?

    The existing shareholders and renouncees can apply for the rights issue.

    The rights are offered to the existing shareholders who are on the records of the company as on a cut-off date known as a record date fixed by the company. The company credits the rights entitlements (RE) to their Demat account which needs to be applied to get the rights share.

    In case, the existing shareholders are not willing to subscribe to the rights, he/she can transfer or sell their RE to outsiders on the exchange floor. The buyers of these RE are known as renouncees who are then eligible to apply for a rights issue in the proportion of the RE bought.


  3. 3. Is rights issue mandatory?

    A rights issue gives the rights to the shareholder but does not put any obligation to buy the additional shares.

    It is not mandatory to buy the rights offered. A shareholder can either:

    1. Ignore their rights and let it lapse.
    2. Transfer or sell the rights to other interested investors.

  4. 4. Why are rights issue offered?

    Rights issues are offered by the companies to raise additional capital for various purposes.

    A company may issue rights account of various reasons as per below:

    1. The company has become cash strapped and needs funds.
    2. For company expansion, takeovers, mergers, acquisitions.
    3. To purchase equipment.
    4. For general corporate purposes.
    5. To repay the loan.

  5. 5. What are the advantages of rights issue?

    The rights issue is the fastest and the most economical method of raising capital for the company. It gives preferential treatment to the existing shareholders by offering additional shares of the company at a discounted price than the current market price.


  6. 6. How do I apply for the rights issue?

    One can apply for the rights issue online or offline through the ASBA process. Recently, SEBI has also made a temporary arrangement to apply for rights using the R-WAP facility. (Registrar's Web-based application platform)

    Steps to apply:

    1. Investors need to fill up the application form received from the company. Alternatively, investors can download the application form from the websites of exchange, company, registrar, or company.
    2. Investors are generally required to furnish their details which include depository details, PAN No., and, bank account number.
    3. The duly filled up and signed application form is required to be submitted physically to the designated branch of Self-Certified Syndicate Banks (SCSB) or online. In case of application through the R-WAP facility, the form is required to be filled up online.
    4. Once the applications are processed, SCSB blocks the application money in the applicant's account.

    Note: An investor is required to have an ASBA enabled account for making an application through the ASBA facility and UPI facility or net banking for making applications through the R-WAP facility.


  7. 7. What happens if I do not subscribe to my rights?

    The rights issue is an offer that needs to be accepted by the shareholder. In case, a shareholder does not subscribe to his rights, the rights get lapsed i.e. the shareholder will not get any additional shares if not applied for.

    The shareholder's ownership in the company will get diluted as their stake would get reduced by not applying to the rights issue. Moreover, the ex-rights issue price generally comes down (price fall expected due to an increase in the number of shares, however, it all depends on the market sentiments and price may not fall). Thus if a shareholder does not subscribe to the issue he may tend to lose the compensation offered by the discounted price. Hence, one must keep a track of the company's performance, prospects, and the reasons for raising the capital and then decide whether or not to subscribe to the rights issue.

  8. 8. Are rights issue good for shareholders?

    The rights issue is good for shareholders as it provides an opportunity for the shareholders to increase the stake in a company at a reduced price compared to the current market price.

    However, the shareholders should not just get lured by the discounted price but, should also know about the company valuations and performance and the object of the rights issue to avail of the benefits of the rights issue.


  9. 9. Can I buy rights issue shares?

    The rights issue shares can be bought or applied for based on the pro-rata rights entitlement credited to the eligible shareholders of the company as on record date.

    An interested investor not in possession of any rights entitlement can also buy the rights shares by purchasing the rights entitlement from the stock market by participating in rights entitlement trading or through an off-market transaction. This will enable him to buy or apply for rights shares based on the entitlements bought.


  10. 10. Can I sell rights issue?

    The shareholders not willing to subscribe to their rights issue can sell their rights in the open market through the rights entitlement trading platform of the stock exchange or via off-market transaction. This is known as the renunciation of rights shares.

    Once a shareholder renounces their rights either in part or full cannot apply for any additional rights share at a later stage.


  11. 11. Can rights issue be applied online?

    The rights issue can be applied online through ASBA facility using net banking or through Registrars Web-based Application Platform (RWAP) using UPI or net banking. The RWAP process is a temporary arrangement allowed to ease the process in current pandemic times.

    As a prerequisite to apply using the ASBA facility you would need to have an ASBA enabled account along with the option of investing in rights issues. To apply using the RWAP facility, you would need a UPI facility enabled as a prerequisite.


  12. 12. Can rights issue be oversubscribed?

    The rights issue can be oversubscribed when people apply for additional rights shares over and above their entitlements.

    Only the eligible shareholders exercising their rights in full can apply for additional shares above their entitlements. A renouncee cannot apply for additional shares above their entitlements purchased from the stock market or off-market transfer.

     

  13. 13. Can rights issue be sold?

    The rights issue can be sold by transferring their entitlements to other interested investors in part or full if the shareholder does not wish to subscribe to his entitlements.

    The rights issue can be sold either through rights entitlement trading on the stock exchange or through an off-market transaction.


  14. 14. What will happen to my RE shares if I do not apply for rights issue?

    The RE shares will get lapsed if you do not apply for the rights issue and your Demat account credited with these temporary shares will get debited once the allocation process is complete.

    If the RE has been purchased, you will also lose the amount paid to acquire those REs. Thus REs in themselves do not mean you hold rights shares, the rights shares need to be applied for by the issue closing date.