Security prices behaviour associated with rights issue-related events

Abstract

In the Indian capital market, about half the funds raisedsince 1985 have been through rights issues. Equity, fully and partly convertible debentures, and nonconvertible debentures have been the major capital market instruments. There are several distinct instrument and issue features. The Indian convertible debenture differs from convertibles elsewhere in being compulsorily and automatically convertible, and not convertible at the option of the bondholder. Given the regulatory framework, the rights issue process is lengthy involving a series of events. An aspect of regulation is the fixation of the issue price by the Controller of Capital Issues. This study examined security prices behavior associated with rights issue-related events, to provide evidence on corporate capital structure, capital market efficiency, and event study methodology. The study used a sample of 31 equity and 27 fully convertible debentures (FCD) issues, by companies with actively traded equity shares, and used event study methodology with daily price data. Equity price reactions to a set of issue—related events were examined. This set consisted of the initial announcement of a Board Meeting to discuss the rights issue proposal, the Board Meeting, the Extra—ordinary General Meeting, the consent of the Controller of Capital Issues, the ex—rights date, the record date, the letter of offer date, the issue opening date, the last date for acceptance of split forms, the issue closing date, the date on which the new issue was listed, and (for FCD issues) the first conversion date. Rights equity issues were accompanied by significant negative abnormal performances around the Board Meeting, and Letter of Offer dates, and positive abnormal performance on the announcement of the Board Meeting. There were no significant abnormal price reactions to FCD announcements. The price—reactions were broadly consistent with asymmetric information models. However, the abnormal performance could not be explained by the issue premium. The market was efficient with the exception of an ex- rights puzzle. There were large significant positive abnormal performances (near1y 10%) on both equity and FCD ex-rights dates. In 1988 legislation was introduced enforcing parity of 'o1d’ and ‘new’ shares Following a rights issue (earlier ‘new’ shares were often quoted at well below the price of ‘old’ shares). The ex—rights abnormality did not seem to have been significantly affected by this Pari—Passu legislation. There is evidence that the abnormality is associated with shares on the specified list. The event study methodology used three return-generation models; Comparison Period, and two ordinary-least-squares Market Models with the BSE Sensitive and BSE National indexes. Both simple and sophisticated procedures were employed which differed in: the adjustment For non- trading, the treatment of shifts between spot and settlement, and the use of re—estimates of 'n0rmal' returns. Methodology did not make a difference to the event study findings.