Subscription Right

A corporation belongs to its shareholders. Whoever owns a share owns a tiny portion of the company. Sometimes such a company issues additional shares to raise fresh money. This means there are more shares than before, and each individual owner’s stake becomes smaller. The subscription right compensates for this: whoever already holds shares is allowed to buy from the new ones first, and in such a quantity that their stake can remain the same size. In Germany, this right is enshrined in the Stock Corporation Act and applies automatically, unless the general meeting explicitly excludes it.

Protection against silent dilution

The technical term for the shrinking of one’s own stake is dilution. An example makes this tangible. A company has one million shares, you own 10,000 of them, i.e. one percent. Now the company issues another million shares. Without a subscription right, you would afterward own only half a percent, even though you sold nothing.

This is not merely a matter of money, but also of power. At the general meeting, the annual gathering of owners, every share counts as a vote. Whoever is diluted has less say. For major shareholders, this can be decisive, for instance when a blocking minority of 25 percent is at stake.

It is important to distinguish this from a takeover. In a takeover, someone buys shares from other shareholders, so the stake simply changes owner. In a capital increase, by contrast, entirely new shares are created out of nothing. It is precisely against this second, quieter form of loss of stake that the subscription right acts.

From the subscription ratio to trading on the stock exchange

In a capital increase, the company sets a subscription ratio. A ratio of 4:1 means: whoever owns four old shares is allowed to buy one new one. The price of the new shares is almost always below the current market price. This discount is an incentive to ensure that as many shareholders as possible actually participate.

No one is obligated to exercise their subscription right. Whoever does not want to invest additional money can generally sell the right on the stock exchange. There is a dedicated subscription rights trading for this, which usually runs for around two weeks. The right has its own price, which is roughly derived from the difference between the market price and the discounted issue price.

A common misconception: whoever does nothing loses money. If the deadline expires, the rights lapse worthless, and the stake is diluted nonetheless. Banks therefore actively alert their customers to the deadline. The general meeting can also exclude the subscription right, for instance when a new major investor is meant to be brought in specifically. Such an exclusion requires a 75 percent majority and a substantive justification.

Subscription rights in stock market news and tech financing

The term appears in business news when a company urgently needs capital. Banks during the financial crisis, airlines after the pandemic, or energy companies with high debts have raised billions this way. Reports then read something like: capital increase with subscription right at a ratio of 3:1. The share price often falls on such days, because the market immediately prices in the dilution.

The principle also plays a role in the technology industry, there often under the English name pre-emptive right. Young companies raise money over several financing rounds and continually issue new shares in the process. Early investors have it contractually guaranteed that they may buy in again at each round. Without this clause, their stakes would have shrunk significantly within a few years.

For retail investors, the subscription right is above all a matter of deadlines. A position suddenly appears in the securities account with the label BZR and a deadline. There are then three options: buy new shares, sell the right, or let it lapse. Only the third option costs money without anything in return.