Rights Issues Versus Private Placements: Theory and UK Evidence

Abstract

UK companies and their shareholders have increasingly opted to have newly issued shares privately placed rather than selling them via a rights issue. We present a model of the choice between these two methods. We view a rights issue as similar to the type of issue envisaged by Myers and Majiluf (1984), in which information asymmetry persists until after the shares are sold. In contrast, the placement process is assumed to enable potential placees to investigate the value of the issuer and to reveal the true value via the placement price, as in Hertzel and Smith (1993). The model yields several testable predictions which are strongly supported by evidence from a large sample of seasoned equity offers.