Directors walk a capital raising tightrope

A renounceable entitlement issue is the fairest way to raise capital (see Capital raisings: Time for a fair share). So why did iCar Asia (ASX: ICQ) recently choose a placement, the least fair method?

It's galling that many existing shareholders – retail investors, in particular – were unable to participate. Several members expressed their anger in the comments section of iCar Asia finds the funds.

But it's a misunderstanding of directors' duties to think that they owe a fiduciary duty to particular groups of shareholders. Rather, their duty is to the company as a whole.

Sometimes the best thing for the company might even involve favouring certain groups of shareholders over others, as in iCar Asia's case here. Of course, we don't have to like it.

Cash crunch

iCar Asia needed more capital. The company was due to run out of cash by the middle of next year. It was therefore necessary that directors raised capital with the least amount of risk. But entitlement issues are the riskiest way of raising capital because they take time.

It's also likely that, had iCar Asia launched an entitlement offer, the issue price would have been 25 cents, or perhaps even 20 cents a share. A much larger number of shares would have been issued, making it more akin to a recapitalisation than a capital raising.

In the end, iCar Asia's decision to issue shares to institutional investors, existing large shareholders and certain directors was – as much as it pains me to say it – probably the best decision. The 32-cent issue price was at a discount of only 10% to the share price, meaning dilution to existing shareholders was just 2.5%. The raising was also wrapped up within days, minimising the risk that it might fall over.

Risking administration

Had iCar Asia launched a failed entitlement issue – due to an untimely market crash, for example – it might have risked administration (although big brothers Catcha Group and Carsales.com (ASX: CAR) would probably have prevented this). Directors chose to advantage a small group of shareholders for what might be called ‘the greater good'.

This is not a defence of iCar Asia's board or (former?) management. It probably should have realised the company had insufficient capital much earlier. And it should have launched a raising well before the market began panicking. The raising was conducted from a position of weakness rather than strength.

Be that as it may, it could have been worse. Unfortunately start-ups require a lot of capital, sometimes at inopportune times. It's yet another risk to take into account when dabbling in this sector.

Note: I'm not a lawyer, so if I've misunderstood something about directors' duties, feel free to correct me in the comments.