The use of right issues as a means of raising additional capital is becoming the norm in the Nigerian capital market. In 2019 alone, not less than 5 companies have approached the Exchange with a quest for additional monies by way of right issues.
While this is a good development, the increased frequency of occurrence calls for good due diligence by investors and shareholders.
What are rights issues?
Rights issues are a form of corporate action where existing shareholders are given the right to buy additional shares of the company in which they already own, at a specified price. This right of “first call” derives from the doctrine of preemptive rights, which confers existing shareholders with the privilege to be given the right to buy additional shares of a company in which they already invested, before such issues can be made available to other non-existing shareholders.
Preemptive rights of shareholders
By virtue of corporate law and regulations, existing shareholders have preemptive rights over any new issues of additional shares by the company. That preemptive right entails that existing shareholders should be given the right to subscribe to new shares, of course with the right of first refusal, before such is offered to non-existing shareholders.
Why an investor would decide to take up rights Issues
One benefit of rights issues is that they are usually issued at a discount to existing shareholders, not only in compensation for being with the company but as an enticement to get them to subscribe to such shares.
A right is issued at a discount if the offer price is less than the market price of the stock in question, and it is at a premium, if the rights offer price is higher than the market price. In almost all cases, rights have been issued at a discount, the world over; however, there are a few instances where rights were issued at a premium.
NPF Micro Finance Vs C&I Leasing
A comparison of the current market price of C&I Leasing which stood at N7.3 on Sept 12th 2019, and the offer price of N6 for the rights, shows that the rights are being issued at a discount of N1.73. On the other hand, NPF Micro Finance Company plc is offering existing shareholders, the right to buy one new additional share for every one share currently held, at an offer price of N1.50 per share.
As at Sept 12th 2019, the market price for NPF Micro Finance Company share stood at N1.11; this indicates that unlike the C&I Leasing rights, which offers a discount of 18%, the NPF Micro Finance rights are being offered at a premium of N0.39 or 35%.
Not only is the C&I Leasing rights presenting a better offer in terms of pricing, it also looks better also in terms of the number of shares that existing shareholders are getting. While NPF Micro Finance is making a one for one right offer, C&I Leasing is offering 4 new shares for every three held, which translates to 1.33 for every one share held.
Economic Benefit Analysis
Without going into the fundamentals of the two companies which I assume that the market already did to come up with the respective market prices quoted in the market, one may be correct to say that the two rights differ in their economic benefits. By subscribing to the NPF Micro Finance rights offer, a shareholder will be paying N1.50 for something worth N1.11 in the market, which is a loss of N0.39 per share.
On the other hand, subscribing to the C&I Leasing rights offer will entail that a shareholder will be paying N24 for 4 additional shares that are worth N29.2 in the market, which is a gain of N1.3 per share. So, to me, the C&I Leasing rights offer makes more economic sense.
What should a shareholder do
While this is not and should not be construed to be investment advice, if I were a shareholder in the two companies, I would do the following:
- Let the NPF Micro Finance offer expire without taking advantage of it. The only downside to this is that by letting it lapse, I run the risk of having my holdings or ownership percentage in the company diluted. To manage that risk, I will buy the same amount that the rights would entitle me to, in the market at a cheaper market price. By doing that, I have maintained my percentage ownership even at a gain compared to going the rights offer route. On the other hand, I will exercise my right to buy the C&I Leasing shares at N6 which I can profitably sell at the market for more than that, possibly at N7.3.
- Alternatively, If I do not want to exercise the rights because I do not have the money to do so, I can borrow from the bank enough to buy the C&I Leasing shares, and pay that back after selling the new shares obtained through the rights issue while keeping the resulting profit. That cannot be said of NPF rights given the relationship between the offer price and the market price.
- Yet another alternative that is open to me is to sell the C&I Leasing rights to someone else at the theoretical price of the right. The theoretical value of a stock right is nothing other than the market price of the stock less the subscription price of the rights divided by the number of shares it takes to receive one additional share through the rights issue. For the two rights, the theoretical prices will be ???
Shareholders should do their due diligence when presented with corporate actions like right issues. In the opinion of the writer, not all right issues on offer make economic sense.