Overland Motor Organisation (OMO) has just made a 1 for 4 bonus issue to have 96

Question

Overland Motor Organisation (OMO) has just made a 1 for 4 bonus issue to have 96 million shares on issue. It is now preparing to raise $36 million through a rights issue. The firm needs the funds to finance purchases of new mineral deposits. After public announcement, the share price steadied at about $7.00 per share. OMO’s financial staff have proposed two plans – plan A’s subscription price is $6 while plan B’s price is $3.00. Assuming both plans are successful: a) Determine the number of shares issued under each plan. b) How many shares currently held will be required to purchase a new share? c) What should be the ex-rights price of the shares in each plan? d) What should be the value of a right in each plan? e) Which plan is preferable? Why? f) Which plan would you recommend to OMO? Why?

Explanation / Answer

Plan A Plan B a) Number of shares issued in million (36/6 and 36/3) 6.00 12.00 b) Number of current shares required to purchase one share (96/6 and 96/12) 16 8 c) Ex-rights price: = (96*7+36)/(96+6) = $              6.94 = (96*7+36)/(96+12) = $              6.56 d) Value od a right = (Stock Price - Rights subscription price per share) / (Number of rights required to buy one share + 1) = (7-6)/(16+1) = $              0.06 = (7-3)/(8+1) = $              0.44 e) Plan A is preferable, as it maintains a higher ex-rights price and results in lesser number of outstanding shares. f) Plan A, for the reasons stated above.

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