Shareholders in British Airways owner International Consolidated Airlines (IAG) must act fast if they want to acquire discounted shares in the company, with less than a week to go to make a decision.

Having announced its plans at the end of July, the airline group has launched a £2.5 billion rights issue – or capital increase as the company calls it – as it looks to weather the Covid-inspired storm hammering the aviation sector and strengthen its balance sheet.

This is a ‘three-for-two’ rights issue, so shareholders can buy three shares for every two they already own. IAG’s share price fell significantly at the start of this week, but shareholders shouldn’t panic as this is related to the rights issue and more detail on that can be found here.

The rights issue involves IAG issuing new shares and giving its existing shareholders the rights to buy those new shares in proportion to their existing shareholding at a set price, known as the subscription price.

Because IAG is incorporated in Spain, the rights issue is being conducted under Spanish law and so there is no compensation for shareholders if they fail to act on the fundraising.

The subscription price has been set at €0.92 per share.

WHAT ARE MY OPTIONS?

Shareholders have three main options, and the final deadline to choose one of these options is 22 September.

The first option is that they can take up their rights, which means they will have the right, for a limited time, to buy some or all of their cut-price shares.

The second option for shareholders is to sell all of their subscription rights, which can be traded on the market.

In this instance shareholders can opt to sell their rights to someone else in return for cash, without having to sell their existing shares. But their shareholding following completion of the rights issue will, however, be diluted. They may also be liable for tax.

The third option for shareholders is that they can choose to sell some of their rights and potentially use the proceeds to buy some of the discounted shares, which is known as ‘tail swallowing’. In a rights issue, tail swallowing involves a shareholder selling enough of their rights to cover the cost of taking up the remainder.

In this instance, no further investment is required from shareholders to take up the balance. Their shareholding will still be diluted, but not by as much as if they were to sell all their subscription rights.

While it is expected there will be an active trading market for the subscription rights, IAG has made it clear there is no guarantee that this will definitely be the case.

DILUTION MATTERS

The fourth option for shareholders is to do nothing, in which case their rights will lapse and their shareholding will be diluted.

Dilution is important for investors to understand because it can affect total returns. Imagine IAG is a cake with eight slices and eight shareholders. Following the capital increase and the new shares coming into issue, IAG is essentially re-cutting its cake into smaller slices per shareholder.

Companies often distribute some of their profits to shareholders in the form of dividends. If and when profits recover at IAG, and the pool of shares has got much bigger as a result of the capital increase, it means any future dividend payments from IAG have to be spread across a greater number of people and each investor’s share could be significantly less.

WHAT ABOUT TAX?

For UK shareholders, if they take up their full entitlement to the new shares under the subscription rights IAG says no capital gains tax liability should arise.

But if they choose to sell some, or all, of their rights for more than £3,000, they may incur capital gains tax on the sale proceeds, depending on personal circumstances.

For example, a UK resident individual can realise up to £12,300 of tax-exempt capital gains in any tax year. If they sell subscription rights for less than £3,000, they should be able to deduct the sale proceeds from their tax base cost in their shares, rather than triggering a taxable disposal.

A shareholder's guide to the capital raise from IAG can be found here.

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Issue Date: 17 Sep 2020