While in ‘normal’ times there are no shortage of companies eyeing fresh funds, the global economic downturn has brought with it a significant increase in the number of companies raising capital. In particular, April was a record-breaking month. There were a total of 37 capital raisings, bringing in $13.3 billion. This eclipsed the $13.1 billion raised in December 2008, the height of the GFC.
Over the last few months we have seen capital raisings from the likes of Afterpay (ASX: APT), Cochlear (ASX: COH), NAB (ASX: NAB), Flight Centre (ASX: FLT), plus a host of others from all ends of the market. This flurry of activity has left many shareholders wondering what to consider before participating in a capital raise.
Capital raisings come in a variety of different formats. To participate in a capital raise, you need to be on the shareholder register by the close of business on the record date nominated by the company. Due to T+2 settlement, for retail investors this means you need to have bought shares in the stock before it enters the trading halt associated with the announcement of the capital raise.
In almost all cases, shares issued through the capital raise will be priced at a ‘discount’ to the prevailing share price or the volume-weighted price leading up to the offer. Some private placements may be done at a premium, particularly if there is a large stake in the company offered, however, these are uncommon.
A capital raise may also be “underwritten”. This means that a third-party, typically the broker conducting the deal or another institution, will buy the shortfall in shares if eligible shareholders do not take up all of the shares made available to them. As such, the underwriter ensures the company raises the full amount of funds it is seeking.
With some of these basic details out of the way, here are the main capital raise structures.
Share Purchase Plan (SPP)
A Share Purchase Plan allows shareholders to apply for shares at a pre-defined price and in accordance with bidding ‘tiers’. Applications for new shares under an SPP will be available in fixed dollar parcel values. For example, these tiers may include $2,500, $5,000 and then in increments of $5,000 up to a maximum cap of $30,000 per investor.
SPPs are often less favourable to retail shareholders as dilution is more likely due to the possibility of oversubscriptions. It is somewhat common for bids to be scaled back, which means they have been downsized due to excess demand. Allocations have no correlation with the number of shares you already hold.
Scale backs are more likely when the offer is accompanied by an institutional placement, since parties involved in that process will often account for the majority of the total capital raise in order to provide some ‘stability’ to the share registry. That process will often be conducted first by issuing shares at a fixed-price or through a bidding process called a book-build.
In some instances, an SPP may include a special pricing clause designed to ‘protect’ retail shareholders from fluctuations in the company’s share price during the longer capital raise process. There may be a provision that a small discount will be offered in relation to the company’s securities in the lead-up to the close of the SPP if the price of the stock falls below the pre-defined price. Not all SPP offers include this clause, so it pays to read the offer booklet closely.
Pro-Rata Entitlement Offer
Under an entitlement offer, sometimes also referred to as a rights issue, shareholders are entitled to buy a certain amount of shares in the company at a fixed price. The amount of entitlement shares you are eligible to buy is based on a pro-rata calculation of your existing ownership. For example, 1 new share for every 5 shares you currently hold (i.e. 1-for-5 offer).
When the stock is released from a trading halt, retail investors have a window, typically several weeks, to apply and receive their shares. The entitlement offer may be conducted on an ‘accelerated’ basis, which effectively means a shorter timeframe.
This type of capital raise allows shareholders to reduce the risks associated with ownership dilution. Each investor can participate and receive a quota of shares in proportion with their existing ownership. Shareholders may also have the option to apply for additional shares on top of their entitlement as part of an oversubscription facility, however, there can be no guarantee that such a facility will be available or that such requests are not subject to scale back, either in part or in full.
An entitlement offer is often accompanied by an institutional entitlement and/or placement on the same price and pro-rata terms, albeit with that section of the capital raise offering shorter settlement to the parties involved.
Finally, rights offers may be designated as “non-renounceable” or “renounceable”. In the case of a renounceable offer, you may sell your ‘rights’. This can be done on-market as if you were trading normal shares. In fact, investors may also buy more rights if they wish. While renounceable offers are the fairest format of all capital raisings, since individuals have complete flexibility and financial incentive to act in a manner that preserves their best interests, most entitlements are typically non-renounceable where rights cannot be traded to another party.
Private or Institutional Offers and Placements
Unfortunately, retail shareholders are excluded from placements, with shares offered to sophisticated or institutional parties. If there is no accompanying share purchase plan or entitlement offer, retail shareholders will see their stake in the company diluted.
Among the benefits to a company pursuing placements is that it allows the company to conduct the capital raise quickly. Whereas offers involving retail shareholders can take weeks to conclude, placements can be conducted in days. In addition, the company can also save costs associated with the preparation and distribution of offer paperwork for retail shareholders. If the deal is closed quickly, the stock can sometimes resume trading earlier than might otherwise be the case under the other formats mentioned.
Capital raise bonanza
Emergency rule changes brought in by the ASX and ASIC have helped companies raise capital. Among the changes is the temporary expansion of the placement capacity for listed companies to 25% of their share capital, up from 15%. In addition, the 1:1 limit on large (non-renounceable) entitlement offers was removed, while companies may now request back-to-back trading halts to help them prepare for a capital raise. The rules have been extended until November 30, 2020.
In light of this development, it is likely that as long as the economic outlook remains uncertain, some companies that have yet to take advantage of the emergency relief measures may conduct capital raisings in the coming months. The key takeaway is to make sure you read the offer paperwork and familiarise yourself with the type of capital raise that is being conducted.
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