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I like rights issues when the money raised is used to fund yield accretive activities. Basically, it means I am investing more money for higher returns.
However, I don't like rights issues when the money raised is used to strengthen balance sheets. Returns, in all likelihood, would be watered down and investors end up immediately poorer.
In the last few years, I provided quite a few examples of rights issues, both good and bad, here in ASSI. Today, a full page ad and in full colour, no less, in The Business Times, encouraged unit holders to "SECURE YOUR 10% DPU YIELD" and "ACCEPT YOUR ENTITLEMENTS TODAY". This was an ad by Rickmers Maritime Trust (RMT).
It has been a long time since I followed developments at RMT. So, somewhat rusty, I went through the ad for details on the rights issue.
The main reason for the rights issue is to "repay bank loans and to strengthen balance sheet". OK, no need to read anymore. Flip the page.
Well, since it has been quite a while since I encountered a rights issue, curious me went on reading.
After the rights issue, RMT's gearing ratio will decline to 51.8%. So, then, is the balance sheet "strong" after the rights issue? It does not seem so. Gearing is still pretty high.
Since investors are probably in this for income, what about DPU? As this is a 1 for 1 rights issue, the number of units in issue will double. Since the proceeds are not used to fund yield accretive activities, DPU logically should reduce by half. However, in this case, it will stay unchanged at 0.6 US cent per quarter for FY2013 as RMT will double its income distribution to unit holders.
Therefore, it is not that the Trust is generating twice as much income as before, it is simply paying out twice as much as before with the same level of income!
Digging around a bit more, I discovered that a few of the charters will be expiring in 2014 and chances are for rates to reduce. Why? The charters are locked in at rates of above US$25,000 a day which is at least 3 times more than current spot rates for similar vessels!
This is why RMT only made mention of DPU maintaining at 0.6 US cent per quarter for FY2013. There is a chance and a high one that DPU will reduce in FY2014.
Thus, as an investment for income, beyond FY2013, RMT does not inspire much confidence. As an investment for growth, RMT simply does not make the cut.
If there is one good reason to invest in RMT, it is its NAV/unit of US$0.50 (S$0.60), post rights issue. Paying S$0.30 per unit, simplistically, investors will be buying container ships at half price! Unless they are corporate raiders, however, this fact is most probably only of academic interest to these investors.
So, to invest or not to invest? The answer lies in understanding our motivations and risk appetites as investors. Ask if the investment adequately compensates us for the risks we are being asked to undertake.
See research by S&P: here.
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