Equity Issue Methods and Dilution

Abstract

We analyze rights offerings and public offerings when informed current shareholders strategically choose to subscribe. If all current shareholders have wealth to participate, rights offerings achieve the full information outcome and dominate public offerings. However, when some current shareholders are wealth constrained, rights offerings lead to more dilution of their stakes and lower payoffs, despite the income from selling these rights, thereby generating wealth transfers among shareholders. When firms can choose the flotation method, either all firms choose the same offer method or high and low quality firms opt for rights offerings while firms of intermediate quality select public offerings.