Rights issue regards to when the shareholders receive an invite to buy a set of allotted shares normally at a discounted price. The company, once a rights issue is declared will send a provisional letter of allotment regarding the new shares to the current shareholders. This letter not an obligation for shareholders to purchase new shares and is instead the right to acquire the allotted shares if the shareholder wishes to do so. If a shareholder was to decide to allow their rights to lapse, meaning not invest in any further shares, the company will often sell the entitlements to third parties and distribute the proceeds.
Business’ will implement a rights issue, to raise additional funds, as companies may need this cash injection to finance new ventures, and this method is a quick way to generate the necessary funds compared to other methods. The funds received can be used in many different aspects to the company such as to pay off outstanding debt or to make investments. On top of this implementing a rights issue may be used as a strategic way to ensure that shareholders maintain ownership of the company, as this method avoids dilution of shares to outside parties by keeping control within the existing shareholders.
For a shareholder the key benefit is that the allotted shares are below the current market value, incentivising the shareholders to invest further. Shareholders also have the opportunity to renounce or sell the letter of allotment to another person wishing to purchase the shares, this is often referred as the sale of rights nil paid. The other benefit to shareholders is as previously mentioned, the opportunity to keep the control of the company within the current shareholders.
