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A detailed explanation of rights entitlement in share capital, how it works in the context of rights issues, its importance for investors and companies, the application process, benefits, risks, and related concepts.
Rights entitlement is a key element of the rights issue process that allows existing shareholders the opportunity to purchase additional shares in proportion to their current holdings. This process is designed to enable companies to raise fresh capital while offering existing shareholders the chance to maintain their ownership percentage. This guide provides a comprehensive understanding of what rights entitlement means, how it operates, the step-by-step process investors need to follow, and the benefits and risks involved. It also covers regulatory frameworks and practical examples to provide clarity for both novice and experienced investors.
Rights entitlement refers to the privilege granted to existing shareholders to buy additional shares from a company, usually at a discounted price, before the shares are offered to the public. This entitlement maintains the shareholder’s proportional ownership in the company if exercised fully.
Rights entitlement is governed by the Companies Act, 2013, and the Securities and Exchange Board of India (SEBI) regulations. These ensure fair treatment of shareholders and transparency in capital raising.
Unlike preferential allotments or public issues, rights entitlement specifically gives existing shareholders a pre-emptive right to buy new shares, preserving their voting power and stake in the company.
Rights Entitlement (RE) gives existing shareholders the right to buy additional shares in a company at a discounted price during a rights issue. These entitlements are credited to shareholders' Demat accounts and can be used to apply for new shares or traded on the stock exchange if not exercised. REs are valid only for a limited time and expire if not used. This mechanism helps companies raise capital while giving existing investors a chance to maintain their ownership stake.
Understanding how rights entitlement fits into the broader rights issue framework is essential.
A rights issue is when a company issues additional shares to existing shareholders in proportion to their holdings, often at a discounted price to raise capital.
Rights entitlement determines the number of new shares a shareholder can apply for, based on their existing shares. The ratio of entitlement guides this allocation.
The ratio expresses how many new shares a shareholder can buy for a certain number of existing shares, e.g., 1:3 means one new share for every three held.
If you hold 300 shares and the rights entitlement ratio is 1:3, you can purchase 100 new shares.
Accurately calculating the rights entitlement ratio is essential for shareholders to determine how many additional shares they are eligible to purchase during a rights issue. This ratio indicates the number of new shares a shareholder can apply for based on their existing shareholding.
Rights Entitlement Ratio = Number of New Shares Offered / Number of Existing Shares
For example, if the company announces a rights issue in the ratio of 1:5, it means a shareholder is entitled to buy 1 new share for every 5 shares they already own.
In many cases, the entitlement calculation may result in fractional shares (e.g., 2.6 shares). Since issuing fractional shares is not feasible, companies generally handle them by rounding down to the nearest whole number. Alternatively, some companies may pool and sell the fractional entitlements in the market and distribute the proceeds proportionally among the eligible shareholders. This ensures fairness and simplifies the allotment process while allowing companies to maintain clarity in share allocation.
Knowing the correct procedure ensures shareholders do not miss their opportunity.
Rights issue announcements include opening and closing dates for subscription.
Receiving the LoE
Submitting the application form or ASBA (Application Supported by Blocked Amount)
Paying the application amount
They process applications, allot shares, and update shareholding records.
Shareholders may transfer their rights entitlement to others if they choose not to subscribe.
Renunciation is the act of transferring rights to another investor.
Rights entitlements can be traded on exchanges within specified periods, providing liquidity.
Selling or not exercising rights can dilute shareholder’s ownership.
Rights entitlement influences stock prices and investor returns.
TERP calculates expected share price after the rights issue, considering discounted issue price and new shares.
TERP = [(Current Market Price × Existing Shares) + (Issue Price × New Shares)] / (Existing Shares + New Shares)
Rights issue generally increases capital base but may cause temporary price adjustments.
Rights entitlement offers advantages to both shareholders and companies.
Allows shareholders to maintain proportional ownership
Shares offered at a discount can be an attractive investment opportunity
Helps companies raise capital efficiently without excessive dilution
Encourages shareholder loyalty and confidence
There are risks that shareholders should consider.
Risk of dilution if rights are not exercised
Share price may fall post-issue, affecting investment value
Complexity and paperwork can deter some shareholders
Financial burden of subscribing to additional shares
Rights entitlement is a vital mechanism that allows shareholders to protect their ownership and participate in a company’s capital raising. Understanding the process, benefits, risks, and regulatory framework helps investors make informed decisions during rights issues. Proper knowledge and timely action can help shareholders maximise the value of their entitlements while supporting the company’s growth.
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.
Sources
Securities and Exchange Board of India (SEBI) — https://www.sebi.gov.in
National Stock Exchange of India (NSE) — https://www.nseindia.com
Bombay Stock Exchange (BSE) — https://www.bseindia.com
Ministry of Corporate Affairs (MCA) — https://www.mca.gov.in
ClearTax: Rights Entitlement — https://cleartax.in
Rights entitlement is the right given to existing shareholders to buy additional shares proportionally.
It is calculated based on the rights issue ratio, such as 1:3, which is one new share per three held.
Yes, rights entitlement can be sold or renounced within the trading period.
Failure to exercise can lead to dilution of your shareholding.
By submitting an application with the required payment during the rights issue period.
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