A capital way to get ahead

IF THERE is a positive to come out of the global financial crisis, it is that many existing shareholders have had the opportunity to top up their company shareholdings at up to one third of their current trading price.

The sometimes quite-generous offers of additional shares have come about because companies have been unable to borrow money from traditional lenders and so have been asking shareholders to dig into their pockets and buy more shares.

So far this year, about $50 billion has been raised in the form of rights issues or share placements, with some of the participating companies being Axa Asia Pacific Holdings, Bank of Queensland, Fairfax Media (publisher of AFR Investor), QBE Insurance and Tabcorp.

GPT offered its new securities at 35 cents each a 26 per cent discount in its latest capital raising. Stockland gave shareholders a 19 per cent discount and Santos discounted its new shares by 26.9 per cent.

For some savvy investors, the capital raisings have opened an opportunity to actually make a quick profit and recover some of the losses made in recent years.

Whether or not the run on capital can continue will depend on whether credit markets return to some sort of normality and companies can borrow again.

WHAT ARE THEY DOING

The founder and director of financial planning firm Centre Capital, Rob Coyte, explains that when a company raises capital, it is asking investors to inject more money onto their balance sheet.

Therefore they are selling a small part of the business in exchange for this cash.

"If the company uses this cash for astute business purposes then this will be a long-term positive for existing shareholders," Coyte says. "Most companies are presently reducing their debt levels with the new cash raised from investors, making it less of a financial risk, which is in turn positive for the company over the short term as they don't have the banks looking over their shoulders forcing them to do silly things such as sell assets at ridiculous prices."

The head of research at MDS Financial, Michael Hevern, says rights issues have the benefit of improving the company's balance sheet but at the expense of existing shareholders as it dilutes their shareholdings.

"However, share price appreciation may resume if investors become more confident about the company's new capital position and its ability to take advantage of business opportunities as they unfold," he says.

With a rights issue, the number of shares that a shareholder can purchase is directly related to the number of shares that the shareholder owns (a one-for-10 offer, for example, allows the shareholder to buy one share for every 10 shares owned).

Under a share-purchase plan, all shareholders can participate up to a maximum $15,000 limit, even if they own only one share.

Shareholders don't pay brokerage when they participate in a share offer.

MAKING PROFITS

Quite simply, if shareholders are offered shares in a company at a discount to the current trading price, they can take up those shares and, possibly, buy more and then sell them immediately at a profit.

To use one example: Axa Asia Pacific Holdings did a $500 million placement as part of an overall capital raising of up to $890 million at a price of $2.85 a share.

Axa's small shareholders could buy up to $10,000 worth of shares at $2.85 or a 2.5 per cent discount to the market, whichever was lower. The share-purchase plan was open from March 31 until April 24 and for the last three weeks of the offer, Axa shares did not trade below $3.75.

Selling the 3508 shares ($10,000 worth) on April 24 at the trading price of $3.84 would have meant a profit of $3473, or 34.7 per cent.

Greg Hoffman, of independent investment newsletter Intelligent Investor, says the same profitable scenario could have been realised on numerous occasions in recent months, however in many cases only about half the eligible shareholders had taken up the offer. "Whether it is through fear or being overwhelmed by paperwork, investors are not participating and it is a real shame," he says.

The strategy is not risk-free and shareholders should be mindful of a couple of things, including the possibility that the share price might actually fall below the discounted offer price, leaving you with a decision to sell the shares or continue to own them at an even lower price.

If you do intend to sell them straight away then it is important to check whether there is enough turnover in the particular company to sell into, particularly if there are going to be a lot of sellers at the same time.

Hoffman says that in deciding whether to invest more money on a long-term basis, or pass up an offer entirely, is no different from deciding whether to buy the shares on the open market.

"If it's a good company, with decent management and a cheap stock price compared with a conservative estimate of intrinsic value, it probably makes sense," Hoffman says. "If the stock is overpriced, it doesn't. If this is the case, you might want to think about the rest of your holding."

CASE STUDY

RETIRED natural resources manager Doug Campbell has a portfolio that includes shares in 20 companies of varying sizes, almost half of which have had some form of rights issue or share placement in the past 12 months.

"I have taken up seven of them," says Doug, who is also a company monitor for the Australian Shareholders' Association. "The only one I didn't participate in was CBA because I thought what they were offering retail shareholders was inferior to the institutions. I would have been better off if I had just taken it up. I cut off my nose to spite my face."

Under its share-purchase plan presented in March, CBA offered shares at $26 each, compared with this week's trading price of about $37.

With the exception of a few of the smaller companies - one of which has gone into administration - in most cases Doug is in front, with the underlying share price higher than the offer price.

In deciding whether to take up his entitlements, Doug applies the same principles as to any investment decision.

"Although I participated in several capital raisings I do make a conscious decision that I won't participate unless I have faith in the company board, the management and the strategic direction of the company," he says.