Rights Issue, Bonus Issue and the Do-Nothing Option
A listed Pakistani textile company announces a 1-for-4 rights issue at PKR 35 per share and a 10% bonus issue, both with the same record date. The shares are trading cum-rights and cum-bonus at PKR 52. An investor holds 100,000 shares and has PKR 900,000 of cash available. The rights are renounceable and the subscription window closes in three weeks. The company’s major shareholder has already committed to take up its full entitlement, but the market is uncertain about demand for the new shares. The investor’s broker estimates that if the rights are not subscribed, the renounceable rights could be sold at around PKR 9 each, although that price is not guaranteed. The investor asks whether to subscribe, sell the rights, or do nothing, and how the bonus affects the calculations.
1. Calculate the theoretical ex-rights/ex-bonus price and the theoretical value of the rights and bonus entitlement for the investor, stating your assumption about whether the ratios apply to pre-announcement shares.
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Assume both ratios apply to the 100,000 pre-announcement shares. The bonus gives 10,000 new shares. The rights give 100,000 / 4 = 25,000 new shares at PKR 35, requiring PKR 875,000. Total shares after both events = 100,000 + 10,000 + 25,000 = 135,000.
Cum-value of the holding = 100,000 × 52 = PKR 5,200,000. Add rights cash = PKR 875,000. Theoretical ex-price = 6,075,000 / 135,000 = PKR 45.00.
Theoretical value of the rights = (45 − 35) × 25,000 = PKR 250,000. Theoretical value of the bonus shares = 45 × 10,000 = PKR 450,000. Check: 135,000 × 45 = PKR 6,075,000, less the PKR 875,000 cash paid = PKR 5,200,000, the original cum-value. If the ratios instead applied to post-bonus shares, the ex-price would be slightly different, so the assumption must be confirmed from the offer document.
2. Advise on subscribing versus selling the rights, given the investor’s cash and the broker’s indicative rights price of PKR 9. Include the conditions under which doing nothing is rational.
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The investor has PKR 900,000, enough to pay PKR 875,000 and subscribe, leaving a small buffer. Subscribing preserves the full 135,000-share position and captures the theoretical PKR 250,000 rights value, but it concentrates more wealth in one textile company and requires the investor to accept the ex-price risk. Selling the 25,000 rights at the indicative PKR 9 raises PKR 225,000, which is below the theoretical PKR 250,000 but avoids the cash outlay and the risk of subscribing into a weak market.
Doing nothing forfeits the rights value and is rational only if the subscription and sale process is impossible, the rights actually expire worthless, or transaction and tax costs exceed the proceeds. It is not rational merely because the investor is uncertain. Recommendation: subscribe if the investor wants the exposure and has confirmed the record-date entitlement; otherwise sell the rights rather than let them lapse. The PKR 45 theoretical ex-price is not a forecast, and the broker’s PKR 9 quote is indicative, not guaranteed.