Question

In 2004 the Pandora made a rights issue at $5 a share of one new share for every four shares held. Before the issue there were 100 million shares outstanding and the share price was $6. For questions (a) to (c) assume that all rights were exercised.

(a) What was the total amount of new money raised?

(b) What was the value of the right to buy one new share?

(c) What was the prospective stock price after the issue?

(d) How far could the stock price after the issue fall before shareholders would be unwilling to take up their rights?

(e) Suppose that the rights issue is at $4 rather than $5 per share. How many new shares would it have needed to sell to raise the same sum of money? How do your answers to (b) and (d) change? Are the shareholders any better or worse off with the $4 exercise price?

Answer 1

Total outstanding shares 100 million and share price is 6dollars and rights price is 5

Total rights issued is 100/4= 25 million (as one right is given for every 4 shares held)

A) total amount of money raised is 25×5 = 125 million

B) value of rights is market value - average price

Average price is( 6×4+5)/5=5.8

So value of right is 6-5.8= 0.2

C)as earnings per share decrease due to increase in no of shares share price is likely to fall

Let us assume eps to be 10

After rights issue EPS is 10×100/125= 8

So price is likely to fall 20%

So new price of share is 6-20%= 4.8

D) explained in c

e)if rights price is 4

No of shares to issued to raise the given amount is 25million×5/4=31.25 million

If 4 is rights share price rights value is 6×4+4/5=5.6(formula explained in b)

For caluculation of share price after issue

By doing same procedure as above EPS after rights issue is 10×100/131.5=7.6(assuming EPS before issue is 10)

Magnitude of fall is (10-7.6)/10= 24%

New share price is 6-24%= 4.56

As share holders getting it for 4 whose mv is 4.56 it is better to share holders