Ai Due Fanali SA has decided to undertake a rights issue that will raise 288 million. The current share price is 4.50 and there are 160 million shares in circulation. They have to make a decision on whether to underwrite the rights issue. The underwriting fee will be 2 per cent of proceeds if the shares are offered at a 20 per cent discount. Ai Due Fanalis finance director believes that a discount of 40 per cent will avoid the need for underwriting altogether.

a) Set out the terms of the issue under each of the two alternatives referred to above. Calculate the theoretical ex-rights price and the value of a right.

b) Demonstrate that in principle, a wealth maximizing shareholder owning six shares will be indifferent between the two alternative methods of raising the funds.