What is a Rights Issue & How It Affects Shareholders

A rights issue is a fundraising approach where a company calls on its current shareholders to buy extra shares, usually at a reduced price, in proportion to their existing holdings. While it allows companies to strengthen their balance sheet, it also has implications for shareholders—such as potential dilution of shareholding or investment opportunities. Knowing how a rights issue works can help shareholders make informed decisions about whether to participate or not.

A rights issue is when a company offers additional shares to its existing shareholders in proportion to their current holdings, usually at a discounted price compared to the market price.

• Objective: Companies use rights issues to raise funds for debt repayment, expansion, or working capital.
  

• Pro-rata allocation: Shares are offered in proportion to existing holdings.
  

• Optional participation: Shareholders may choose to subscribe, renounce, or ignore the offer.

To understand the mechanics, here’s how the process typically unfolds:

• The company announces the record date to determine eligible shareholders.
  

• It specifies the issue ratio (e.g., 1:4 means one new share for every four held).
  

• The subscription price is set, usually lower than the market price to encourage participation.
  

• Investors can:
  

  • Subscribe and increase their stake.
    

  • Renounce their rights in favor of someone else (selling rights entitlements).
    

  • Ignore the issue, which could result in dilution of ownership.

Suppose an investor holds 200 shares of Company X priced at ₹100 per share, and the company announces a 1:4 rights issue at ₹80 per share:

• Eligible new shares = 200 ÷ 4 = 50 shares
  

• Investment required = 50 × ₹80 = ₹4,000
  

If the investor subscribes fully, they will own 250 shares at a lower average cost.

A rights issue can affect investors and the market in several ways:

Ownership and Voting Power

Through a rights issue, current shareholders are given the option to acquire more shares based on the size of their existing ownership. Participating helps maintain or even increase ownership and voting rights, while choosing not to participate leads to dilution of stake.

Stock Price Movements

Stock prices often adjust to reflect the ex-rights value after the announcement. While there may be a short-term decline, the long-term effect depends on how effectively the company uses the raised funds to generate growth or improve profitability.

Financial Impact on Company

Proceeds from a rights issue can strengthen the company’s balance sheet, reduce debt, or support expansion plans. However, frequent or large rights issues may raise concerns about financial health, potentially affecting investor confidence.

Rights issues can benefit investors if used strategically:

• Opportunity to buy additional shares at a discount.
  

• No brokerage cost for subscribing to entitlements.
  

• Potential to increase stake in a growing company.

While attractive, rights issues carry certain considerations:

• Dilution risk if the offer is ignored.
  

• Short-term price correction post-announcement.
  

• Possibility that the company is raising funds due to financial pressure.

A rights issue is a fundraising tool that allows companies to tap existing shareholders before approaching the public. For investors, participating can be rewarding if the company’s long-term prospects are strong. Understanding the ratio, pricing, and market impact is key to making the right decision.

This content is for informational purposes only and the same should not be construed as investment advice. Bajaj Finserv Direct Limited shall not be liable or responsible for any investment decision that you may take based on this content.