Series 7 practice questionmediumEquity Securities — Rights
A company announces a rights offering to existing shareholders. The subscription price is set at $40, and the stock is currently trading at $50. Each right allows the holder to purchase one new share. What is the intrinsic value of each right when the stock is trading cum-rights?
- A$5
- B$40
- C$15
- D$10✓ Correct answer
Explanation
Why D — $10
The intrinsic value of a right is the difference between the current market price and the subscription price. Since the stock trades at $50 and the subscription price is $40, each right has an intrinsic value of $10. During the cum-rights period, the rights are attached to the stock and the formula adjusts for the number of rights needed, but the basic value difference remains $10.
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