Question

Red Shoe Co. has concluded that additional equity financing will be needed to expand operations and that the needed funds will be best obtained through a rights offering. It has correctly determined that as a result of the rights offering, the share price will fall from $36 to $34.20 ($36 is the rights-on price; $34.20 is the ex-rights price, also known as the when-issued price). The company is seeking $11 million in additional funds with a per-share subscription price equal to $25.

How many shares are there currently, before the offering? (Assume that the increment to the market value of the equity equals the gross proceeds from the offering.) (Do not round intermediate calculations and round your final answer to nearest whole number, e.g., 32.)

Answer 1

Number of shares, the shareholder will have ex-rights can be found by:

Ex-Rights Price = [(No. of exrights shares * rights on price) + per share subscription price ]/(Number of ex-rights shares +1)

34.20 = [(N*36)+25]/(N+1)

= 34.20(N+1) = 36N +25

= 34.20-25 = 36N-34.20 N

= 9.20 = 1.80N

=N = 9.20/1.8 = 5.11

The number of new shares = Amount raised /per share subscription price

No. of new shares = $11,000,000/25 = 440,000

Number of Old shares = No. of new shares * No. of rights per share

= No. of old shares = 5.11 * 440000= 2,248,400