During a rights issue, a company raises capital by offering new shares of its stock to its shareholders. In theory, the shareholders will buy all the new offerings, and this trade will change the price of the company's shares. Afterward, shares will cost more than the rights issue offerings, but they won't be worth as much as the company's shares did before the rights issue. The theoretical ex-rights price (TERP) estimates the shares' value after the trade.
Determine the portion of the company's final shares that exist pre-offering. For instance, if a company moves for a 1-for-4 rights issue: 4 ÷ (1 + 4) = 0.8.
Subtract this answer from 1: 1 - 0.8 = 0.2. This is the portion of the total shares that the issue represents.
Multiply the shares' portion by the share price before the rights issue. For instance, if the shares sell at a price of £1.30: 0.8 --- £1.30 = £1.0.
Calculate the price of the newly issued shares. For example, if the company offers them at a 10 per cent discount: £1.40 --- [(100 - 10) ÷ 100] = £1.20
Multiply this price by the decimal value from Step 2: £1.20 --- 0.2 = 25
Add together the prices from Steps 3 and 5: £1.0 + 25 = £1.30. This is the theoretical ex-rights price.