Foreign Stock Rights Issue - Can US Investors Participate?

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Topic Author
Shaka
Posts: 38
Joined: Sat Jul 04, 2020 8:04 pm

Foreign Stock Rights Issue - Can US Investors Participate?

Post by Shaka »

Rolls Royce (RYCEF) stock has plummeted in recent weeks (COVID impacts to airline industry) and I bought some stock near the low with a little play money.

Rolls Royce is a UK-based company. It recently announced a "rights issue" to help shore up their financial position by issuing new shares, diluting existing shareholders by 77% if they don't take advantage of the rights issue. However, it appears since I'm located in the United States, I'm not allowed to participate in the rights issue.

I can't figure out what the statements on the Rolls Royce investor website regarding foreign investor rights really mean for me. Will my shares be diluted 77% because I can't participate in the rights issue? Do any Bogleheads have experience with this or can share any insights?

Their website states:
If the rights issue is approved, as it can’t be offered in your country, we will arrange to try and sell your rights to new ordinary shares for you, and you will be sent any profit (after expenses) if it is £5 or more.


Here are some excerpts from relevant websites on the rights issue and foreign investor rights:

DESCRIPTION OF THE RIGHTS ISSUE FROM IG.COM
The rights issue will see Rolls Royce allow existing investors to subscribe to 10 new shares in the business for every three shares they currently own. To provide an example, if you owned 1000 Rolls Royce shares at the time of the rights issue then you would be entitled to purchase 3333 new shares.

The new shares will be issued at a price of 32p, which is a 41.4% discount to the theoretical ex-rights price (TERP) per share of 54.6p on the day before the rights issue was announced.

The rights issue is significant for investors. Taking up your rights will allow you to retain your stake by buying more shares at a discounted rate. Those that don’t take up their rights will be heavily diluted.

The recapitalisation will result in 6.43 billion new shares being issued, assuming all rights are taken up, which would result in Rolls Royce’s share capital increasing 333% from 1.93 billion to 8.36 billion shares in issue. Any shareholder that doesn’t take up their rights will be diluted by almost 77%.

ROLLS ROYCE WEBSITE STATEMENT ON OPTIONS FOR FOREIGN INVESTORS
Don’t live in the UK?
Due to local regulations the rights issue cannot be offered in your country.

What can I do?
As a shareholder, your voice still matters and it’s important that you place your vote. If the rights issue is approved, as it can’t be offered in your country, we will arrange to try and sell your rights to new ordinary shares for you, and you will be sent any profit (after expenses) if it is £5 or more.

ROLLS ROYCE WEBSITE STATEMENT SAYING THE RIGHTS ISSUE IS NOT VALID IN THE US
The securities to be issued pursuant to the Rights Issue referred to in the circular have not been, and will not be, registered under the U.S. Securities Act of 1933, as amended (the “US Securities Act”) or under any securities laws of any state of the United States or of South Africa, New Zealand, the United Arab Emirates or any other jurisdiction where the extension of availability of the materials to which you are seeking access would breach any applicable law or regulation, and may not be offered, sold, taken up, exercised, resold, renounced, transferred or delivered, directly or indirectly, within the United States, South Africa, New Zealand, the United Arab Emirates, or any other jurisdiction where the extension of availability of the materials to which you are seeking access would breach any applicable law or regulation except, in the case of the United States, pursuant to an exemption from, or in a transaction not subject to, the registration requirements of the US Securities Act and in compliance with any applicable securities laws of any state or other jurisdiction of the United States.
theresearcher
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Re: Foreign Stock Rights Issue - Can US Investors Participate?

Post by theresearcher »

Talk to your broker (assuming you are holding these shares in a U.S. brokerage account)- but if the company says you can't participate then usually you can't. There are numerous requirements they would have to meet with the SEC if they wished to raise new capital from U.S. investors.

The way the rights issue works is as follows, using 3 shares as an example since it is a 10 for 3 rights issue and priced in GBP as the base currency- the OTC stock price of RYCEF should reflect the GBP price adjusted for the exchange rate to USD:
Closing price on September 30 GBP1.30
Three shares at 1.30 allows an investor to buy 10 shares at 0.32.
The price of the stock after the completion of the rights issue would be the existing equity value (3*1.30 = 3.90) plus the cash from rights (10*0.32 = 3.20) = 7.10 divided by 13 shares which gets to the 0.546 result mentioned in the broker circular. This is the theoretical ex-rights price.

Currently, the shares are trading with rights included. Once they go ex-rights, your 3 shares will be worth GBP 0.546 = 1.64 while the rights on a stand-alone basis are worth the difference between the theoretical ex-rights price of 0.546 and the subscription price of 0.32 (0.226) times 10 shares = 2.26

Add the two together and you get to the current value of your 3 shares (1.63 new share value + 2.26 value of rights) = 3.90. Same as the value of the three shares before the rights issue was announced.

Since the rights issue was announced, the shares of Rolls Royce traded in London (RR.L) have increased to GBP2.2219 and so the math of the theoretical ex-rights price and the value of the rights themselves has changed. It will continue to change each day until the rights issue is completed. However the principle is the same- a stockholder who decides to sell the rights and not invest additional funds in RR will see his or her stockholding reduced in value by 50% or more.

If you cannot participate in the rights issue then there are at least three options available.
1. Worst case scenario- the rights expire without being taken up and your stock is then worth a lower amount due to dilution.
2. Your broker is able to arrange, with the transfer agent, a sale of your rights (to buy stock at a concessional price) to an investor who is not restricted in taking up these rights. You would then receive the cash which would compensate you for the reduction in the value of the stock post-rights. You will also need to ask the broker how this is treated on your 1099- it may considered a return of capital in which case it would not be taxable as income but would reduce the cost basis of your stock. Alternatively- it could be treated as a part-disposal of the stock. You may need to research the tax consequences independently.
3. Sell the stock before the rights expire (should not be left to the last day or two)- although this will realize a capital gain or loss.
Topic Author
Shaka
Posts: 38
Joined: Sat Jul 04, 2020 8:04 pm

Re: Foreign Stock Rights Issue - Can US Investors Participate?

Post by Shaka »

theresearcher wrote: Sat Oct 17, 2020 4:16 pm Talk to your broker (assuming you are holding these shares in a U.S. brokerage account)- but if the company says you can't participate then usually you can't. There are numerous requirements they would have to meet with the SEC if they wished to raise new capital from U.S. investors.
I will check with Fidelity and see what they say.

theresearcher wrote: Sat Oct 17, 2020 4:16 pm 2. Your broker is able to arrange, with the transfer agent, a sale of your rights (to buy stock at a concessional price) to an investor who is not restricted in taking up these rights. You would then receive the cash which would compensate you for the reduction in the value of the stock post-rights. You will also need to ask the broker how this is treated on your 1099- it may considered a return of capital in which case it would not be taxable as income but would reduce the cost basis of your stock. Alternatively- it could be treated as a part-disposal of the stock. You may need to research the tax consequences independently.
This seems like what the Rolls Royce website says is the option for US investors. Hopefully Fidelity will know how to facilitate this.

Thank you for your insights.
Valuethinker
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Joined: Fri May 11, 2007 11:07 am

Re: Foreign Stock Rights Issue - Can US Investors Participate?

Post by Valuethinker »

Shaka wrote: Sat Oct 17, 2020 6:53 pm
theresearcher wrote: Sat Oct 17, 2020 4:16 pm Talk to your broker (assuming you are holding these shares in a U.S. brokerage account)- but if the company says you can't participate then usually you can't. There are numerous requirements they would have to meet with the SEC if they wished to raise new capital from U.S. investors.
I will check with Fidelity and see what they say.

theresearcher wrote: Sat Oct 17, 2020 4:16 pm 2. Your broker is able to arrange, with the transfer agent, a sale of your rights (to buy stock at a concessional price) to an investor who is not restricted in taking up these rights. You would then receive the cash which would compensate you for the reduction in the value of the stock post-rights. You will also need to ask the broker how this is treated on your 1099- it may considered a return of capital in which case it would not be taxable as income but would reduce the cost basis of your stock. Alternatively- it could be treated as a part-disposal of the stock. You may need to research the tax consequences independently.
This seems like what the Rolls Royce website says is the option for US investors. Hopefully Fidelity will know how to facilitate this.

Thank you for your insights.
To avoid dilution what you need to do is buy shares once they go ex rights.

Because of the cost of complying w US securities laws most of this sort of corporate action in the UK block US shareholders from compliance.

Canada is worse in term of legal complications.
Topic Author
Shaka
Posts: 38
Joined: Sat Jul 04, 2020 8:04 pm

Re: Foreign Stock Rights Issue - Can US Investors Participate?

Post by Shaka »

Valuethinker wrote: Sun Oct 18, 2020 2:55 am To avoid dilution what you need to do is buy shares once they go ex rights.
Valuethinker, can you explain what going "ex rights" means?

Thanks!
theresearcher
Posts: 88
Joined: Sat Jul 25, 2020 12:51 pm

Re: Foreign Stock Rights Issue - Can US Investors Participate?

Post by theresearcher »

Ex-rights.
https://www.merriam-webster.com/legal/ex-rights

Similar to ex-dividend. Once the stock goes ex-rights, new purchasers of the stock will not have the right to purchase new shares at a concessional rate (this will be retained by the seller of the stock, or expired) and the price will adjust to allow for this fact.
Valuethinker
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Joined: Fri May 11, 2007 11:07 am

Re: Foreign Stock Rights Issue - Can US Investors Participate?

Post by Valuethinker »

theresearcher wrote: Mon Oct 19, 2020 6:32 pm Ex-rights.
https://www.merriam-webster.com/legal/ex-rights

Similar to ex-dividend. Once the stock goes ex-rights, new purchasers of the stock will not have the right to purchase new shares at a concessional rate (this will be retained by the seller of the stock, or expired) and the price will adjust to allow for this fact.
I think this covers answer pretty well.

"ex" meaning without. Past a certain date, you do not receive the rights.

Your broker should be selling your rights on your behalf.

It's called "swallowing your tail" if you sell enough rights to finance buying the remainder - ie cash neutral. You'd still be diluted though, in that case.

They priced this issue to go. Meaning maximum dilution, forcing existing shareholders to stump up if they don't want to be highly diluted. Unfortunately North American investors will be left out in the cold.

Does Rolls Royce have an ADR?
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