Reliance announces rights issue: what it means to investors?

 Not long after the Facebook and Jio deal was signed, Reliance Industries Limited, the oil-to-telecom conglomerate, has given us a new topic to chew on. In its regulatory filing to the BSE (Bombay Stock Exchange), Reliance Industries Limited (RIL) revealed that it would consider rights issue in the Board of Directors meeting on 30th Apr. And it was approved.

Some analysts say Reliance’s rights issue maybe its 3rd round of fundraising to deleverage its balance sheet, the other two being a stake sale in Jio to Facebook and issuance of non-convertible debentures (NCD).

We take this opportunity to discuss rights issue and how it would impact Reliance Industries Limited and its shareholders/investors.

What is a rights issue?

A rights issue is a way to raise capital by inviting existing shareholders to buy additional shares at a price lower than the market value. That said, the meaning of right shares is straightforward: existing shareholders are given a right to buy new shares, but are not obligated to do so. Also, the new shares are available for subscription at a discounted price for a predetermined period.

What does a rights issue mean to existing shareholders?

A rights issue is like a sale in a literal sense. By issuing rights shares, a company offers its shareholders an opportunity to buy additional shares/increase their stake in the company at a discounted price. That way, existing shareholders can make the most of this opportunity by locking in the associated future benefits such as bonus shares and dividends that the company is likely to offer in the future.

What is the purpose of issuing rights shares?

A company issues right shares to:

• Repay their debts
• Acquire a competitor
• Fund expansion

Why did Reliance consider rights issue?

In Aug 2019, the Chairman Reliance Industries Ltd (RIL), Mukesh Ambani, had announced the company’s intention to get debt-free by Mar 2021. Notably, RIL had a total debt of $20 billion as of Mar that year. Ever since, the oil-to-technology company has been directing its efforts in this direction.

First, Reliance announced its intention to sell a stake in its Oil & Gas and Petrochem business to Saudi Aramco. Next, early in Apr, it had announced the plan to issue non-convertible debentures worth Rs 250 billion. Recently, the oil-to-telecom conglomerate confirmed the Facebook and Jio deal.

Though these seem like a decent pathway to raise funds and deleverage its balance sheet, uncertainties in the economy have put Reliance’s deal with Saudi Aramco (worth $15 billion) on hold due to the oil market carnage. This only goes on to say that Ambani-led Reliance Industries Limited (RIL) may have decided to raise capital internally rather than waiting for the external environment to get favourable.

Reliance rights issue details

On 30th Apr 2020, Reliance Industries Ltd approved what would be the nation’s biggest rights issue worth Rs 53,125 crore. The rights issue will be offered in the form of fully paid equity shares of Rs 1,257 each, 14% lower than the closing price for the day. Further, these rights shares will be issued in the ratio of 1:15. That means, an investor will get to subscribe 1 rights share for every 15 stocks they currently hold. Besides, the subscription is also available for promoters, who will not only buy their share of the rights issue but also purchase the unsubscribed portion entitled to the public.

Effect of a rights issue on Reliance shares price

As you know, a rights issue adds new shares to the capital of a company. This means that the number of shares as against the net profit also increases. As a result, the company’s earnings per share (EPS) decreases and the price follows suit. Likewise, Reliance shares price also plunged ~2% after the company revealed its consideration to offer rights shares.

How does a rights issue work?

Let us say XYZ Co. has a capital of 1 lakh shares worth Rs 10 each. Now, the company announces a rights issue of 20,000 shares at Rs 5 each. This means the ratio of the rights issue is 5:1. That is, a shareholder will get 1 new share for every 5 shares that they hold at the time.

Now, the existing shareholders of XYZ Co. can choose to:

1. Buy the right shares (exercise the right)
2. Not buy the right shares (give up the right)
3. Sell their rights to others (transfer the right)

Speaking of the third option, you can trade rights shares like any other share on a stock exchange. However, you can only do so if your rights are transferable, that is, if you enjoy renounceable rights. You can’t trade such shares if you have non-renounceable rights.

Should you subscribe to the rights issue offered by Reliance?

A rights issue may fix the company’s balance sheet in the short-term, but its effectiveness in the long-run can’t be gauged. Therefore, subscribing to rights shares simply because they are available at a cheaper price wouldn’t be the right thing to do. Also, you wouldn’t know if you are being compensated well for accepting a dilution in the value of your existing shareholding.

That is why, experts suggest looking at the ex-rights share price and other factors relating to the business and the market before subscribing to a rights issue. Be informed about the purpose of issuing rights shares and evaluate whether it is the right step to dilute the share capital of the company. To sum it up, research well before taking a call.

Speaking of it comes to Reliance Industries Ltd, experts believe the purpose of the rights issue could be to deleverage the balance sheet (repaying debt). Two observations in this regard are that consumer-centric businesses such as Reliance Retail, Reliance Digital, and Reliance Jio are faring well. However, other businesses in the oil segment are exposed to the risks of high volatility in the oil market.

Still, in announcing the rights issue, Mukesh Ambani seems positive about the future prospects of RIL even as the economy is slowing down and the global oil market is in turmoil.