Understanding Theoretical Ex-Rights Price (TERP): Calculation, Impact, and Investor Analysis

A theoretical ex-rights price (TERP) is a fundamental concept in finance, specifically within the context of rights offerings. As companies opt for new rights issuances to infuse capital, understanding TERP becomes crucial for investors and financial professionals.

A theoretical ex-rights price is a critical consideration for those navigating the complexities of stocks issued through a rights offering. During this limited-time offering, existing shareholders have the opportunity to acquire additional shares at a predetermined discount. The primary objective is to raise additional capital while providing preferential treatment to current shareholders based on their existing stake in the organization.

The calculation of TERP is a key process, typically performed immediately after the conclusion of a stock’s rights offering. The estimation involves a straightforward formula: the addition of the market value of existing shares before the rights issue to the total funds raised from the rights issue sales. This sum is then divided by the total number of shares in existence post the rights issue, resulting in the value of an individual share after the offering.

Throughout the rights offering period, investors engage in speculation, considering factors such as the number of share rights available, expected demand, and the offering price. However, estimating TERP can be challenging due to variations in disclosure practices among companies.

Investors play a crucial role in analyzing TERP in relation to the current value of a share and their expectations for future market trends. The discounted prices offered during rights issuance contribute to the dilution of a stock’s value. However, the dynamics of supply and demand during the offering period can still influence market prices. Long-term bullish investors may view the rights offering as an opportunity, while short-term or bearish investors may exercise caution.

Consider the scenario where ABC Company’s management decides to issue a rights offering. Each shareholder is granted the opportunity to purchase shares in the offering based on the percentage of their outstanding shares. These new shares are offered at a discounted price compared to the market price. Shareholders can use TERP to estimate the post-rights issue value of the shares, which may differ significantly from the current market price.

It’s worth noting that multiple theoretical estimates can be calculated before the offering period concludes, based on different scenarios. Investors may assess TERP values for varying levels of shares purchased in the rights offering, influencing their decisions regarding potential dilution.

A rights offering provides existing shareholders the opportunity to purchase additional shares at a discounted price, influencing their stake in the organization.

TERP is typically lower due to the dilutive effect of rights offerings, where shares are offered at a discounted price during the offering period.

Variations in disclosure practices among companies can make estimating TERP challenging, as investors rely on specific information during the offering period.