I understand what Warren means.

If you are a long-term, buy-and-hold investor, the odds are you will do well in the market. And I can show you a mountain of data that would say that if you are a small-cap, long-term, buy-and-hold investor, you might do very well, indeed.

But if you’re too laid back in monitoring your portfolio, you’re going to have a few questions when you finally do get around to reading your brokerage statements…

“Why are Lucent and NCR in my brokerage account?” (Working at a brokerage a decade ago, I’ve yet to hear a single question asked more than that one…)

“Why do I now have more shares of Garmin in my account than a month ago?”

“What is this Rights Offering that I now have?”

It’s happened to all of us at least once.

A spin off, stock split, or rights offerings hits our account out of the blue, and we missed the news of its impending arrival. Of the three, though, the rights offering is the one you have to be really on top of…

A rights offering is simply another way for public companies to raise money. It gives current shareholders a chance to maintain their percentage stake in the company, and usually also a chance to buy shares at a discount to current prices.

Let’s take a recent example of this from our Small-Cap Insider portfolio, cosmetic company Revlon (REV:NYSE).

On December 18, Revlon revealed the terms of a $100 million rights offering. All Revlon shareholders of Class A and Class B shares, as of December 11, 2006, would receive rights to buy .2308 shares of Revlon Class A stock for each share they already hold. The rights would allow the stockholders to buy these shares at $1.05 a share. That’s a steep discount to the $1.31 where the stock trades today.

As a rights holder, you have three alternatives:

1. You can exercise your right and buy additional shares…which means you might have to find a substantial amount of cash you otherwise might not have planned on investing.
2. You can simply ignore the offering, and your position in the stock will be diluted. Dilution can be a real issue for a large institution or corporate insider with millions of shares, but it’s obviously less of an issue for small individual investors.
3. Finally, your last alternative is to sell the rights. Some rights, including these Revlon rights, are tradable and carry their own value. But like an option, they only have a value for a limited time. They will stop trading on January 18 — the last business day before the January 19 expiration. That’s why shareholders need to be on top of this…

Let’s walk through the Revlon example…

Let’s say you have 1,000 shares of Revlon, and you want to exercise all of the rights you’ve been granted. You can buy up to 230 shares (.2308 x 1,000) of Class A at $1.05 each, for a total of $241.50.

This may seem like a great deal, but remember that once the rights expire, there will be a lot more shares of the stock on the open market. Therefore, Revlon’s price will drop to a kind of weighted-average between the shares already outstanding and the newly issued ones offered at a lower price.

For Revlon shareholders with these rights in your accounts, they’re currently trading around $0.06 a piece under the symbol REVRT.

Note: If you have trouble finding a quote for these rights, I suggest going to the New York Stock Exchange’s Web site at http://www.nyse.com.

Until next time,
Craig
January 11, 2007

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Small-Cap Stocks Rights was originally featured in the Penny Sleuth.