Use the information below to answer questions a, b, and c
The Holyoke Corporation has 120,000 shares outstanding with a current market price of $8.10 per share. The company needs to raise an additional $36,000 to finance new expenditures, and has decided on a rights issue. The issue will allow current stockholders to purchase one additional share for 20 rights at a subscription price of $6 per share.
a. Calculate the ex-rights price that would make a new stockholder indifferent between buying shares at the old stock price and exercising the rights or buying the shares ex-rights.
b. If the ex-rights price were set at $7.90, would you as a potential new stockholder choose to buy shares ex-rights or buy shares at the old price and exercise your rights?
c. Suppose that the company was also considering structuring the rights issue to allow for an additional share to be purchased for 10 rights at a subscription price of $3. Prove that a stockholder with 100 shares would be indifferent between purchasing a new share for 10 rights at $3 or purchasing a new share for 20 rights at $6
Please show your work for each problem to help me going forward with these type of questions.
a. Ex-rights price = (Market value of shares prior to rights issue + fund raised from rights issue)/(no. of shares after rights issue)
No. of shares after rights issue = 120000*(1 +1/20) = 126,000
In this solution, ex-rights prices are estimated and analysed in 2 different cases.