Definition
The subscription price is the predetermined price at which current shareholders of a corporation have the privilege to purchase additional shares during a rights offering or at which they can exercise their subscription warrants. This price is typically set below the market price to incentivize shareholders to participate in the offering.
Examples
-
Rights Offering Example:
- Company XYZ announces a rights offering, giving existing shareholders the right to purchase additional shares at a subscription price of $5 per share. If the current market price of the shares is $7, the shareholders can buy the shares at a $2 discount per share.
-
Subscription Warrants Example:
- Jane owns subscription warrants for Company ABC, allowing her to purchase additional shares at a subscription price of $10 each. If the current market price is $12, Jane can buy the shares at a discounted rate, profiting from the difference.
Frequently Asked Questions
What is a rights offering?
A rights offering is a method by which a company raises additional capital by giving existing shareholders the right to purchase new shares at a fixed subscription price, typically lower than the market price.
Why do companies offer shares at a discount in a rights offering?
Companies offer shares at a discount to encourage participation from current shareholders, ensuring the successful sale of additional shares and raising necessary capital.
How is the subscription price determined?
The subscription price is determined by the company’s board of directors based on factors such as market conditions, the company’s financial needs, and the objective to make the offer attractive to existing shareholders.
Can the subscription price change once it’s set?
No, once the subscription price is set for a rights offering or for exercising warrants, it typically remains fixed for the duration of the offer period.
What happens if shareholders do not use their rights to buy shares at the subscription price?
If shareholders do not exercise their rights, the company might offer the unsubscribed shares to other shareholders or new investors. The unexercised rights may lapse, causing shareholders to lose the opportunity to buy additional shares at a discount.
- Rights Offering: A process whereby companies offer existing shareholders the opportunity to purchase additional shares at a discount to the market price before the general public.
- Subscription Warrants: Financial instruments that grant the holder the right, but not the obligation, to buy shares of a company at a specified price before or on a specific date.
- Shareholder: An individual or institution that owns one or more shares in a company and thus has partial ownership.
- Market Price: The current price at which an asset or service can be bought or sold.
- Capital Raising: The act of securing funds through equity, debt, or other financial means to support business activities.
Online References
- Investopedia: Rights Offering
- Wikipedia: Stock Warrant
- Corporate Finance Institute: Subscription Price
Suggested Books for Further Studies
- “Principles of Corporate Finance” by Richard A. Brealey, Stewart C. Myers, and Franklin Allen
- “Investment Banking: Valuation, Leveraged Buyouts, and Mergers & Acquisitions” by Joshua Rosenbaum and Joshua Pearl
- “Financial Markets and Institutions” by Frederic S. Mishkin and Stanley G. Eakins
Fundamentals of Subscription Price: Corporate Finance Basics Quiz
### What is the primary purpose of setting a subscription price below the market price in a rights offering?
- [ ] To decrease the market value of the shares
- [ ] To discourage new investments
- [x] To encourage existing shareholders to participate
- [ ] To create financial instability in the market
> **Explanation:** Setting the subscription price below the market price incentivizes existing shareholders to purchase additional shares, ensuring successful capital raising.
### Who is eligible to purchase shares at the subscription price during a rights offering?
- [x] Existing shareholders of the company
- [ ] Any potential investor in the open market
- [ ] Only institutional investors
- [ ] Employees of the company only
> **Explanation:** The rights offering is primarily targeted at existing shareholders, giving them the first opportunity to purchase additional shares at the discounted subscription price.
### Can the subscription price fluctuate during the offer period?
- [ ] Yes, it can fluctuate daily
- [x] No, it remains fixed during the offer period
- [ ] Only on special request
- [ ] Depending on market conditions
> **Explanation:** The subscription price is fixed once determined and remains constant for the duration of the rights offering or exercise period.
### What happens to shareholders who do not exercise their rights in a rights offering?
- [ ] They are forced to sell their existing shares
- [ ] They receive a financial penalty
- [x] They lose the opportunity to buy additional shares at a discount
- [ ] They receive compensatory shares for free
> **Explanation:** If shareholders do not exercise their rights, they lose the chance to buy shares at the discounted subscription price.
### Are subscription warrants mandatory for shareholders to use?
- [ ] Yes, they must be used
- [x] No, they provide an option, not an obligation
- [ ] Only for large shareholders
- [ ] Only International investors
> **Explanation:** Subscription warrants grant the right but not the obligation to purchase additional shares at the set price, offering flexibility to the warrant holder.
### How is the subscription price generally set relative to the current market price?
- [ ] Above the market price
- [x] Below the market price
- [ ] At the exact market price
- [ ] Far above the market price with bonuses
> **Explanation:** The subscription price is typically set below the current market price to incentivize participation in the offering.
### What motivates companies to raise capital through a rights offering?
- [ ] To reduce the number of shareholders
- [ ] To increase share buybacks
- [x] To raise new capital while giving existing shareholders the first chance to invest
- [ ] To avoid selling assets
> **Explanation:** Companies use rights offerings to raise new capital in a way that prioritizes current shareholders, encouraging them to invest further at a discount.
### What financial instrument provides the holder with the right to purchase shares at a specified subscription price before a specific date?
- [ ] Bonds
- [x] Subscription Warrants
- [ ] Preferred Equity
- [ ] Certificates of Deposit
> **Explanation:** Subscription warrants give holders the right to buy shares at a specific subscription price within a predetermined period.
### In which type of offer do companies often use subscription prices?
- [x] Rights Offering
- [ ] IPO (Initial Public Offering)
- [ ] Buyback Plan
- [ ] Dividend Reinvestment Plan
> **Explanation:** Rights offerings frequently use subscription prices to set the cost at which existing shareholders can purchase additional shares.
### Do subscription prices apply to newly issued shareholders in the open market?
- [ ] Yes, they apply to every buyer
- [x] No, they are designated for current shareholders only
- [ ] Only speculative investors can take advantage
- [ ] All institutional investors
> **Explanation:** Subscription prices are intended for current shareholders, providing them the preferred opportunity to purchase additional shares at a discount.
Thank you for deepening your understanding of the subscription price mechanism in corporate finance and tackling our challenging quiz questions. Keep advancing your financial acumen!
