It’s your ‘Right’ to subscribe or not

All depends on the company’s prospects and if you are willing to increase exposure to the stock

The rights issue, which offers existing shareholders a specified number of new shares at a discount to market price, is one of the many means of raising capital by the company.

The markets have witnessed several companies coming up with rights issues over the past few months. Apart from the large offer from Tata Steel, others such as Piramal Enterprises and Indiabulls Ventures have tapped shareholders to raise additional capital through the rights issue mode.

The ‘rights’ here refers to the existing shareholders’ right to subscribe to the issue. Companies prefer to take the rights issue route to raising capital, as it is less stringent compared to public offers. Also, a rights offer helps a company avoid taking recourse to debt. But is it suitable for you as an investor? Much would depend, as always, on how an offer is priced and the prospects of the company. As an investor you can use the rights issue to buy more shares of a company for a possibly lower price. However, you must understand a few factors before taking the plunge. Here, we discuss all that you as an investor need to know about subscribing or renouncing a rights offer.

Exercising your right

An investor must own shares of the issuing company as on the record date to be eligible for subscribing to the rights issue.

Similar to other offers (IPO or follow-on public issue), the issuing company can offer fully paid-up shares (full payment on application) or partly paid-up shares (part-payment on application and balance money on future calls). Partly paid-up shares are usually costlier than fully paid-up ones, as the price of the former factors in the risk of deferring the payment and the opportunity cost, among other factors. In case of part-payment option, the amount to be paid on application will be minimum one fourth of the issue price. The balance amount has to be paid when the company makes a call (first call, second call...) which could be within one year from the issue.

The issue is normally kept open for 15 to 30 days from the end of the record date. During this period, you can either subscribe or renounce the rights. You may also choose to take no action.

The money trail

Before parting with your money to buy the rights on offer, you must know what the company proposes to do with the proceeds. Typically, companies use the amount received from such offers to repay or at least pare debt significantly. In a tightening or rising interest rate scenario, an early repayment saves the company a lot of money in interest costs.

For instance, Tata Steel is looking to repay nearly ₹10,000 crore of debt from its rights issue proceeds of about ₹12,800 crore.

Pricing becomes critical as that decides if the rights issue is lucrative enough. In the above example, Tata Steel offered shares at nearly 22 per cent discount to the adjusted market price. Piramal Enterprises too offered rights at a price that was more than 12 per cent lower than the adjusted price.

If the pricing is reasonable and the company’s prospects are healthy, subscribing to the rights issue can be a good way to average your acquisition cost.

One important factor to be noted is that buying more of the same company increases the concentration to its stock. Therefore, take care while exercising your option, especially if you bought the shares at pretty low levels earlier and averaging isn’t really necessary to bring down the average cost.

Giving it up

Unless the articles of association of the company offering the rights state otherwise, the rights could be renounced to any person, including the person who is not currently holding the shares of the issuing company.

Renunciation can be done at any price that you agree upon with the buyer. It is nothing but an agreement between two willing parties. For example, in the case of Indian Hotels’ right issue, reports suggest that some brokers offered ₹12-17 per share to get shareholders to renounce their rights entitlements.

However, in case of not receiving the proceeds of renunciation from the buyer, it is difficult to take legal recourse as the Companies Act, 2013 and SEBI regulations are silent about it.

And when you take no action against your rights, they will lapse once the issue is closed.

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