The effects of rights issue announcements on stock returns for firms listed at the Nairobi securities exchange

Abstract

Rights issue is a secondary equity issue in which new additional shares are issued to the existing shareholders in exchange for cash (capital) needed by a publicly quoted company, either for expansion purposes or to finance company operations. The rights are issued to the shareholders in the proportion of their existing holdings. Empirical studies give mixed results on the direction of stock returns upon a rights issue announcement. Since there has been no consensus on how capital markets generally respond to rights issue announcement, this study investigates the effect of rights issue announcement on stock returns of companies listed at an organised exchange. The study adopts an event study technique on a sample of twelve companies which issued rights between January 1, 2007 and August 31, 2014. Secondary data on share prices is collected from the Nairobi Securities Exchange (NSE) database. The study establishes that stock prices and returns changes significantly in the post announcement period than in the preannouncement period. Analysis of mean abnormal return reveales that rights issue announcement results into either positive or negative stock return. Based on the cumulative average abnormal return (CAAR), the study concludes that rights issue announcement results into a negative abnormal stock return for the listed firms. The study therefore recommends that the investment banks and listed companies should consider the negative abnormal stock price reactions and the subsequent negative abnormal stock return changes to the announcement of rights issue while setting the discounted rights issue prices so as to ensure that during the issue period, the stock trading prices do not fall below the rights issue price, a fact that can lead to the collapse of the rights issue exercise. The study recommends further academic exploration on the effects of repeat rights issues on stock prices and returns so as to understand the possible response of investors to seasonal issues.