Question

In: Finance

Faff plc wants to raise $200 million in equity via a rights issue. The company has...

Faff plc wants to raise $200 million in equity via a rights issue. The company has 100 million shares in circulation and the current share price is $9. If the company decides to hire an underwriter to advise them on the rights issue, the underwriting fee will be 3 percent of proceeds assuming the new shares are offered at a 25 percent discount. However, the Chief Financial Officer of Faff plc believes that a 40 percent discount on new shares will avoid the need for underwriting altogether.
Set out the terms of the issue under each of the two alternatives referred to above. Compute the theoretical ex-rights price and the value of a right. Explain the results.

Solutions

Expert Solution

Theoretical Ex right Price =( Market Value of Equity before right shares + Value of Righ shares) / Total Number of Shares

Where, Total Number of shares = Current Outstanding Shares + Number of right shares issued

Scenario 1 : Number of Shars Befiore Right issue = 100 Millions

Price Per share = $9

So, Market Value of Equity before right shares =Number of Shars Befiore Right issue * Price Per share

= 100 Millions * 9

= $900 Millions

Value of Right Shares = 200 Millions - Underwriters Commission

= 200 Millions - (3% * 200 Millions)

= $194 Millions

Price Per shares of Right Share = Market Price of Share * ( 1 - Discount Percentage)

= 9 * ( 1 - 25%)

= 9 * 0.75

= $6.75

Number of Shares of right issue = Value of Right Shares / Price Per shares of Right Share

= 194 Millions / 6.75

= 28.740 Millions

So, Theoretical Ex right Price = (900 Millions + 194 Millions) / (100 Millions + 28.740 Millions)

= $8.49774

Value of right = Market Value of Share - Theoretical Ex right Price

= 9 - 8.49774

= $0.5022

Scenario 2: Market Value of Equity before right shares = $900 Millions

Value of Right Shares = 200 Millions

Price Per share = Market Price of Share * ( 1 - Discount Percentage)

= 9 * ( 1 - 40%)

= 9 * 0.60

= $5.40

Number of Shares of right issue = Value of Right Shares / Price Per shares of Right Share

= 200 Million / 5.40

= 37.037 Millions

So, Theoretical Ex right Price = (900 Millions + 200 Millions) / (100 Millions + 37.037 Millions)

= $8.027

Value of right = Market Value of Share - Theoretical Ex right Price

= 9 - 8.027

= $0.97297


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