The effect of rights issue on performance of firms listed at the Nairobi securities exchange

Abstract

Rights issues have been increasingly adopted as a way of financing globally and as a result forming an area of much interest and research globally. A lot of debate has focused on announcement returns on equity and post liquidity effects in the stock market but little has been done on effect of rights issue in firm performance, occasioning a gap in the existing literature. Prior studies have reported that companies making rights issues exhibit significant underperformance in the period following the offering. Significant local studies on the topic have been conducted and thus this paper updates the findings based on more recent data. It examines whether rights issue have an impact on firms' performance. Using a sample covering the period 2000-2010, performance of 14 companies that had issued rights were analyzed. Accounting measures were used to develop a model that was used to estimate the financial performance of firms. Financial statements for these companies were extracted and calculations performed to arrive at variables that determined their performance. Financial performance was determined as a function of profitability, Leverage, Growth, Size and Liquidity. Three-year averages were calculated for both post issue and pre-issue events for comparison purposes. Statistical analysis was conducted throughout to determine relationship between the dependent variable and independent variables. Correlation and regression analysis were also used in the study. The results of this study indicated inconsistent findings as compared to prior studies which showed decline in performance after rights issue. Profitability, growth, and liquidity of firms showed an improvement after rights issue while size and leverage declined after the issue, as shown by comparison of descriptive statistics three years before and three years after rights issue. The researcher attributes decline in size to increase in assets in relation to sales, implying inefficiency in utilization of assets. The results also indicate that rights equity issues decrease leverage resulting from sufficient finances raised through the issue thus reducing firms' borrowing rate. Through regression analysis, post issue and pre-issue models were derived. From the results, a change in the predictor variables explained 73.38% change in the criterion variable as showed by the coefficient of determination. All variables put into account, net profit margin increased from 11.132(pre-issue) to 13.141(post issue) thus implying an improved performance. Profitability after rights issue exhibited higher increase than other variables. The conclusion of this study is that a firms' performance reacts positively to the issue of rights especially where there is full subscription by shareholders. The general conclusion is that a firm's performance increases as a result of rights issue.