Rights Offering (Issue)

Understanding Rights Offerings

Key takeaways
* A rights offering gives existing shareholders the opportunity to buy additional shares at a discounted price, in proportion to their current holdings.
* Rights are usually exercisable for a limited period and are often transferable (can be sold) unless they are non‑renounceable.
* Two main structures exist: direct rights offerings and insured/standby (backstopped) rights offerings.
* Rights offerings raise capital with lower underwriting costs but typically dilute existing shares and can send a negative signal to the market.

What is a rights offering?

A rights offering is a corporate action that lets current shareholders purchase newly issued shares at a specified, usually discounted, price. The company issues “rights” that entitle each shareholder to buy a pro rata portion of the new shares. Shareholders can exercise their rights, sell them (if transferable), or let them expire.

How rights offerings work

• Allocation: Rights are distributed to shareholders on a pro rata basis (for example, one new share for every 10 shares owned).
• Subscription price and window: The company sets a subscription price and a short exercise period (commonly a few weeks).
• Tradability: Rights often trade on the market prior to expiration, allowing holders who do not wish to increase their position to sell their rights.
• Outcome: If exercised, new shares are issued and outstanding share count rises; if sold, the rights simply transfer to another investor; if unexercised, they expire worthless (unless a backstop exists).

Types of rights offerings

• Direct rights offering: The company only sells shares that are actually subscribed by shareholders. If many rights go unexercised, the issuer may raise less capital than planned.
• Insured/standby (backstopped) rights offering: A third party (often an investment bank) agrees in advance to buy any unsubscribed shares, guaranteeing the issuer will raise the targeted capital. This reduces fundraising risk but increases costs.
• Non‑renounceable vs transferable rights: Non‑renounceable rights cannot be sold and must be exercised or allowed to lapse. Transferable rights can be traded on the market prior to expiration.

Pros and cons

Advantages
* Cheaper capital: Typically avoids or reduces underwriting fees compared with a public offering.
* Preferential access: Existing shareholders get a chance to maintain their ownership percentage and buy at a discount.
* Speed and control: Can be implemented more quickly and with more control over allocation than broad public offerings.

Disadvantages
* Dilution: Issuing new shares spreads earnings across a larger share count, reducing earnings per share (EPS) for existing owners who do not participate.
* Negative signal: Investors may view a rights offering as a sign the company needs cash, which can pressure the stock price.
* Execution costs and complexity: Legal, regulatory, and administrative steps can be time‑consuming and costly; uninsured offerings risk undercapitalization.
* Potential ownership shifts: Large holders or backstoppers may end up with a more concentrated stake.

Effects on stock price and shareholder choices

Rights offerings usually exert downward pressure on stock price due to dilution and possible negative sentiment. Shareholders have three basic options:
* Exercise the rights to buy discounted shares (maintain ownership percentage).
* Sell transferable rights in the market (capture value without increasing exposure).
* Do nothing, letting rights expire (which results in dilution of their percentage ownership).

Shareholders are not obligated to participate.

Bottom line

A rights offering is a targeted way for a company to raise equity from its existing shareholder base, often at lower cost than a public underwriting. It offers shareholders the opportunity to buy discounted shares but commonly causes dilution and can signal financial stress. Whether to participate depends on a shareholder’s view of the company’s prospects, the value of the discounted price, and the alternatives available for raising capital.