A right is actually an abbreviation for the full form “Right of first refusal”. It is an option given to the existing shareholders to invest in a public issue of the company in proportion to their existing shareholding.
It is given as a privilege to the current investors to increase their holding in the company. You can think of it as a loyalty program of sorts. The option’s time value (subscription period) in India is between 15 – 30 days depending on the company. It cannot extend beyond 30 days as per the securities law.
The right to subscribe is non-transferable and if shareholders don’t do it within the stipulated time-frame, it expires. To lure shareholders to buy in the rights issue, companies issue shares at a discount to the market price. The long-term shareholders tend to subscribe for these issues if they don’t want their % ownership of the company to get diluted.
Why do companies do Right issue?
The main reason is to keep its shareholding structure unchanged!
Rights issues are a classic way to keep away from new activist investors, hostile acquiring attempts from competitors, corporate raiders etc. Unlike an IPO, a rights issue is a silent affair which does not attract any attention of the outside world.
A company that wants to do a rights issue must only issue a public notice in 3 newspapers (English, Hindi & regional). Usually, these advertisements are stuck in the notice board part of the paper which hardly invites any attention.
This source of funding is especially useful for companies that have a large promoter holding with a narrow shareholder base. Raising equity becomes easy and inexpensive through this route.