The SFC and HKEx warned through a December 2016 press release that they were monitoring the possible abuse of rights issues and open offers. However, in an ideal world, rights issues are the ‘gold standard’ for the issue of further shares by listed companies. What are the wrongs and ‘rights’ of the situation?
The terms ‘rights’ itself suggests something valuable to shareholders, which they should protect. Note to Listing Rule 13.36(1)(a) reinforces this: “Importance is attached to the principle that a shareholder should be able to protect his proportion of the total equity by having the opportunity to subscribe for any new issue of equity securities. Accordingly, unless shareholders permit, all issues of equity securities must be offered to the existing shareholders…’.
In practice, it has become standard for shareholders to pass annually a ‘general mandate’, permitting the directors to issue 20% of the company’s shares to third parties without significant further checks. In practice also, it is quicker and cheaper to use the general mandate to issue new shares than to make a rights issue or open offer. Rights issues and open offers already labour under the need for greater documentation and procedures, a longer timetable and greater risks and expenses. Do they need any further discouragement?
An open offer is in effect the same as a rights issue with the (important) distinction that the application form issued to shareholders in an open offer is not tradable, whereas in a rights issue shareholders can trade their rights ‘nil paid’. Despite the apparent protection against dilution, large rights issues or open offers can be abusive. Some warning signs are set out below, but there may be mitigating circumstances and there are no easy answers. The warning signs are:
These potential abuses are real and in our view it is fair for the authorities to draw attention to them. However, it would be a pity if the market treated rights issues or open offers with too much caution. In our view, this method of raising further capital should be considered as one of the main equity fund-raising options, even if it is in the end concluded that it is not practical or appropriate in the particular circumstances. Indeed, consideration of how to make rights issues quicker and cheaper and to encourage “clawback” for other shareholders where shares are issued to controlling shareholders would in our view promote fair and equal treatment of shareholders.