What is a Rights Issue

These days, more and more stock market listed companies are preferring to offer shares through a rights issue to meet their working capital needs. According to equity market experts, the rights issues of reputed companies, if priced correctly can be a boon for the shareholders of the firm.

Concept of Rights Issue

A rights issue is a form of secondary market offering to raise money to run the business. Companies prefer to raise money through them when they face difficulties to raise money through the conventional methods such as taking loans from banks and financial institutions. This can also be a way of avoiding the regular interest payments which have to be made in case of acceptance of loans from creditors.

The shares issued in a rights issue can be subscribed by the existing shareholders of the company only. The biggest advantage for retail investors is that they can get shares at a great discount as compared to the current market price of the company's stock. As a shareholder, you can get discounts in the range of twenty to thirty percent for the issue. So, if you are a long term investor in the company and have bought the shares at very high prices as compared to the current market price, the issue can be a golden opportunity to lower your 'average cost' of shares. One should also be aware of the fact that the existing shareholders of the company would have aright of first refusal on the new shares which are to be issued through a rights issue. Many of these are underwritten which mean that the funds which are sought by the organization have to be raised.

Investors need to be extra careful before subscribing to the rights issue of the company and they should check the financial stability, future expansion plans and debt situation before investing their money. The need to raise money through right's issue is sometimes considered to be a sign of financial trouble in an organization, mostly due to high debt burden. Generally, companies opting for a rights issue inform all their shareholders about these developments well in advance to give them enough time for preparation. A provisional allotment letter is also send to the addresses of all the shareholders regarding the rights issue information.

It is also essential to understand the difference between a rights issue and an initial public offering (IPO) of shares. In the initial public offering, the shares are issued by the stock exchange while in the right issue it is the company who will issue the shares. IPO process will make things more clear for you. You should read the interviews of the management of the company and find out for which purposes the money is being raised via the rights issue and how it will help to strengthen the balance sheet of the company.

If you are a retail investor and are not sure whether you should apply for the rights issue or not, then consulting a person from the financial planning and equity portfolio management field could be the best option for you.