Answer to Question #244568 in Economics for Sammy

Question

Agyawadwo Ltd wants to raise equity capital for a new project. Upon some financial consultation with ABC financial advisors, they have learnt that right issues, retained earnings and private placement are very popular and important methods for raising equity capital but there is disagreement among management as to which method should be used. Required a) Discuss how these three methods compare broadly in terms of the amount that can be raised, the cost of issue, dilution of control, degree of under-pricing, and market perception? [13 marks] b) Examine any three factors that could influence a business for the choice of equity finance or debt finance. [12 marks]

Answer 1

a) A rights issue is an offering of rights to the existing shareholders of a company that gives them an opportunity to buy additional shares directly from the company at a discounted price rather than buying them in the secondary market. The number of additional shares that can be bought depends on the existing holdings of the shareowners.

A “private placement” is a private alternative to issuing, or selling, a publicly offered security as a means for raising capital. In a private placement, both the offering and sale of debt or equity securities is made between a business, or issuer, and a select number of investors.

With retained earnings, the company takes money that could have been returned to shareholders and uses it to fund capital projects. Effectively, it is using the shareholders money to fund these projects, increasing the value of their equity holdings.

b) Factors that could influence a business for the choice of equity finance or debt finance are:

• Long-Term Goals.
• Available Interest Rates.
• The Need for Control.