Alternatives Case

Synopsis

This essay is going to discuss the reasons that rights issues are less important and alternatives methods are developed. This situation results from the problems rights issues brought in terms of company, shareholders and stock market. It will be stated that rights issues cost much money and time to apply, bring a large hidden cost to shareholders and lead to abnormally fluctuations in the stock market. Moreover, small-caps are vulnerable to make rights issues and companies can raise less than expectation capital. It can be concluded that alternatives are not perfect and rights issues can still be widely used.

Introduction

This essay will identify the reasons for the evolution of alternative methods that publicly listed companies raise equity capital. The problems that alternative methods addressed will be discussed as well.

Discussion

Rights issues is a method that companies provide existing shareholders shares at a discounted price (Miner, Tripley and Smulian 2010). Making rights issues plays an important role in the traditional capital raising. However, it becomes increasingly less important these days. It can be explained by the disadvantages of rights issues.

Firstly, for companies, the extra costs and time needed to pay for making rights issues. It can be argued that rights issues are costless and timeless than public issues as rights issues are provided to the existing shareholders rather than primary market (Zitsman 2008). It has saved the roadshow fee. However, the fee and time are required for the approval of making rights issues through specific organisations, for instance, the offering that a European company intends to raise more than EUR 2.5 million in 12 months should be approved by FSA (Financial Services Authority) (Urry 2009).

Secondly, for shareholders, exercising rights provided by rights issues has a large hidden cost. There is a decline trend for market share price for the publicly listed company, who wants to raise capital by making rights issues (Weller, 1962). It is a result of an unexpected large rise in the supply of stock during a short time and it draws down the benefits of shareholders (Dolley, 1934). Moreover, although shareholders own the right of first refusal, it can be thought as “unfair” for shareholders, since it is difficult to sell shares at a full price when shareholders are unable to afford (Ferran 2008).

Thirdly, for small companies, they are vulnerable to be hit by making rights issues. The small-caps here refer to the companies with weak balance-sheet strength (small caps could face problems in right issues 2008). For the small-caps sector, they are relatively dependent on the bank financing. When problems stop them from financing in credits market, they have to ask support from shareholders by making rights issues (small caps