Question

Klevin Co is considering an extensive rights issue to raise new finance. It currently has 4 million shares and has been very successful over a prolonged period.

The term of the deal are as follows:

-          One new share for every 4 held at a price of 90% of the existing market value per share.

-          The existing market value is 20 € per share (the with rights price).

One of the directors is unhappy with offering any discounts to existing shareholders. He claims that the companies past success should be enough to encourage shareholders to increase their investments.

a)       What is the theoretical ex rights price (TERP) per share?

Select one:

a. 18.00 €

b. 19.60 €

c. 20.00 €

d. 24.50 €

Answer 1

Solution :

Theoretical Ex-Rights Price (TERP) is a price attributable to company's share after a rights issue occurs.

we have

4 million shares outstanding

So rights shares will be one- fourth i.e

= 25% of 4 mn = 1mn shares

Rights issue share price = 90% of 20 i.e € 18/share.

Formula for calculating TERP is

=( Market value of shares before rights issue + cash received from rights issue) / Number of share outstanding after rights issue

=( 4mn shares * €20 + 1mn shares * €18) / 4mn + 1mn

= € 98mn / 5mn

= € 19.6 per share

Note : The other options are incorrect as the above option has been arrived at by following the formula of TERP.