Series 7 Exam Question 19: Answer and Explanation

Question: 19

ABC Corporation is issuing new shares through a rights offering. If the stock trades at $30, and it costs $24 plus 12 rights to purchase a new share, what is the theoretical value of a right, ex-rights?

• A. $0.46
• B. $0.50
• C. $0.92
• D. $1.00

Correct Answer: B

Explanation:

B. A rights offering occurs when an issuer offers new shares to existing shareholders at a discount prior to offering them to the other investors. Rights have a theoretical value that is determined by the following formula where M equals the market price of the stock, S equals the subscription price (discounted price), and N equals the number of rights needed to purchase one share.

$\frac{\text{M}-\text{S}}{\text{N}}=\frac{\$30-\$24}{12}=\frac{\$6}{12}=\$0.50$

As a reminder, if the question was looking for the theoretical value of a right when the stock trades with (cum) rights, you would've needed to add 1 to the denominator.