Hey everyone! This article is intended to give a simple explanation of a term that you may have heard before. If you’ve been paying attention to the stock market recently, you’ve likely heard about “Right Issues”. Both Seprod (SEP) and Barita Investments Limited (BIL) have done Rights Issues in recent memory, and by the time you’re reading this Barita would have announced the details of another Rights Issue they have coming. So, if you’ve wondered about Rights Issues before, or googled but didn’t quite get it, then today is your lucky day. Come with me as I try to explain what a Rights Issue is in the usual simple, clear, beginner-friendly language. As always, I’ll give a few details to go along with the explanation, but let me start with the straight-forward definition at first.
A rights issue is an invitation from a company to its owners (the shareholders) to purchase newly issued shares in that company within a specific time.
That’s it. Simple and straight-forward…now for the details. In a Rights Issue, a company offers a set amount of shares for a set price to a specific set of people. Think of it like an IPO, but only to existing shareholders of the company. The General Public can only get shares if current shareholders don’t take up the amount offered to them. Unlike regular IPOs, Rights Issues can’t be truly oversubscribed in the same way, as each shareholder has a specific amount of shares reserved for them and them alone from the total offer. No one can take your allotment unless you the shareholder chooses not to take up the offer. That is why they are called “Rights Issues”, because shareholders literally have the right to buy their allocated shares before anyone else.
Why Are They Done?
Companies do rights issues to raise more money. That’s another nice, simple explanation, and very accurate. They are also usually attractive to shareholders too, because they are often priced below whatever the current price of the company’s shares are and so they allow shareholders to get new shares for cheap. For example, Barita’s latest Rights Issue is offering new shares to shareholders at $45 each, even though Barita’s shares are currently trading for $86.37 on the stock market. (August 20, 2019). So when a company does a Rights Issue, what they are really doing is creating brand new shares and selling them to shareholders in order to get money to do something. Now what that “something” is, is usually up to the Management and Board of Directors to say. They do this in a document sent to shareholders called an “Offer Circular”.
Some of the key things an Offer Circular has to have are:
The Offer Price: Which tells how much the new shares are being offered for.
Share Amount: How many shares are being offered in total by the company.
Record Date: The date on which you must be a shareholder in order to qualify for the offer.
Opening Date: The date on which the offer opens.
Closing Date: The date by which shareholders have to accept the offer.
Closing Date (Excess): Shares not taken up by other shareholders must be applied for by this date.
Splitting Date: Date by which Splitting Shareholders must indicate their option.
Principal Amount: The total amount that the company is seeking to get from selling the shares.
The Offer Circular, is a letter to shareholders from the Company telling what exactly is being offered and on what terms. Just like an IPO’s Prospectus, the Circular has to have all the relevant details for a shareholder to be able to review and make their decision about whether or not they want to participate in the Rights Issue.
Another major thing that the Circular should have is the “Use of Proceeds”. The company is getting the money to do “something” as I said earlier, but, they have to tell shareholders what that “something” is. It’s up to you as a shareholder to decide if that “something” makes sense to you. Now note, because of competitive reasons and the generally secretive nature of Jamaican companies, the reason given may not always be clearly stated. It often times requires you, the shareholder, to make some assumptions and trust the board’s direction.
For example in January 2019, Barita did a Rights Issue of 262m shares, for J$4.1 billion. The reason they gave was “..to better pursue viable opportunities for investment that are aligned with Barita Investment’s strategic goals, and also for general corporate purposes…". This is a bit of a vague reason, especially for $4 billion; but what it really asked, in my opinion, was for shareholders to trust the Board’s Management and decisions. That trust has been repaid over the past few months as Barita’s share price rose from $51.88 at the end of Jan 2019 to J$89.42 as at the end of July 2019. That’s a rise of over 72% in 6 months! Great value for Barita shareholders, and even greater value for the shareholders who bought shares under that Rights Issue.
This Circular also comes with a second document called a “Letter of Provisional Allotment”. This Letter lays out; how many shares you have currently, how many new shares you have the right to buy under the Rights Issue, how much these new shares will cost, how to indicate if you will be taking up the offer and of course, the method for paying and the date by which you should pay if you are taking up the offer. It also allows you, if offered, to buy any excess shares that other shareholders may not have bought.
How to Participate?
Shareholders have a few options under a Rights Issue. They are generally able to;
Accept the Offer In Full: Which prevents dilution and gives you a discount on new shares.
Accept Some of the Offer: This is called “splitting”. It is NOT the same as a stock split.
Refuse The Offer: You can do this usually by just not responding to the offer.
Now, part of understanding your options requires understanding the effect of a Rights Issue on company ownership. While they are good for the company that’s issuing them, shareholders should be warned that in strict mathematical terms, if a shareholder does not take up all the shares they are offered, then the percentage ownership of the company that your shares represents becomes lower.
Here’s an example:
ABC Limited has 100 shares in total with each share valued at $25. Jim owns 10 shares in ABC, so he owns 10% of the company. ABC wants money to pay off a loan of $50, so the Board of Directors of ABC Ltd. does a Rights Issue to shareholders of 1 share, at a price of $1, for every 2 existing shares. This means that after the Rights Issue ABC Limited will have 150 shares in total. Jim didn’t participate in the Rights Issue, but he still kept his 10 shares. All the other shareholders participated.
After the Rights Issue was done, Jim realized that because he didn’t participate, he now only owned 6.7% of the company instead of his original 10%. The next time ABC Limited pays a dividend, Jim will only get 6.7% of the total dividend amount paid out instead of his usual 10%. Had he bought his full allocation (1 new share for every 2 shares owned = 5 extra shares for a total cost of $5 for Jim) then he would have had 15 shares (10 original shares+5 new shares) and still owned 10% of the company (15 shares÷150 total shares = 10%). Furthermore, he would have paid less than the current value for the extra shares.
I’ll wrap this up with one last bit of info. There are 2 types of Rights Issues; Renounceable, and Non-Renounceable. Non-Renounceable Rights Issues mean that shareholders cannot sell their rights to their allocation, Renounceable Issues of course, mean that shareholders can . For example, in a Renounceable Rights Issue, Jim could have sold another shareholder the right to buy his 5 allotted new shares under the ABC Rights Issue.
I hope this has made another piece of the entire Investing world a little clearer for you. Rights issues can often make money for shareholders but there is always a little bit of calculating required to be sure. Remember to always speak to a licensed, investment advisor or broker if you have any doubts! The right advisor should be able to guide your investment decisions, especially when it comes to Rights Issues.
Yours in Gains,