Bonus Shares

Bonus Share
When the additional shares are allotted to the existing shareholders without
receiving any additional payment from them, it is known as issue of bonus
shares.
Bonus shares are allotted by capitalizing the reserves and surplus.
Issue of bonus shares results in the conversion of the company's profits into
share capital. herefore it is termed as capitalization of company's profits.
!ince such shares are issued to the e"uity shareholders in proportion to their
holdings of e"uity share capital of the company, a shareholder continues to retain
his # her proportionate ownership of the company.
Issue of bonus shares does not affect the total capital structure of the company. It
is simply a capitalization of that portion of shareholders' e"uity which is
represented by reserves and surpluses.
It also does not affect the total earnings of the shareholders.
Issue of Bonus !hares is more or less a financial gimmick without any real
impact on the wealth of the shareholders. !till firms issue bonus shares and
shareholders look forward to issue of bonus shares.
Reasons for issuing Bonus Shares
1. he bonus issue tends to bring the market price per share within a more
reasonable range.
2. It increases the number of outstanding shares. his promotes more active
trading.
3. he nominal rate of dividend tends to decline. his may dispel the impression
of profiteering.
4. !hare capital base increases and the company may achieve a more
spectacular size in the eyes of the investing company.
5. !hareholders regard a bonus issue as a strong indication that the prospects of
the company have brightened and they can reasonably look for an increase in
total dividend.
6. It improves the prospects of raising additional funds.
Regulation of Bonus Issues
Important regulatory provisions governing issue of bonus shares are$
1. he bonus issue is made out of free reserves built out of the profits or share
premium collected in cash only.
2. he residual reserves after the proposed capitalization shall be at least %&' of
the increased paid up capital.
Stock Splits
In a stock split the face value per share is reduced and the number of shares is
increased proportionately.
( stock split is similar to a bonus issue from economic point of view. But there are
some differences from the accounting point of view.
Difference between Bonus Issue an Stock Split
Bonus Issue Stock Split
1. he par value of share is unchanged. 1. he par value of share is reduced.
2. ( part of the reserves is capitalized. 2. here is no capitalization of reserves.
!"antages of issue of bonus shares to the co#pan$
1. Conservation of Cash:
Issue of bonus shares does not involve cash outflow. he company can retain
earnings as well as satisfy the desire of the shareholders to receive dividend.
2. Keeps the EPS at a reasonable level:
( company having high )*! may face problems both from employees and
consumers.
)mployees may feel that they are underpaid.
+onsumers may feel that they are being charged too high for the company's
products.
Issue of bonus shares increases the number of shares and reduces the earning
per share.
3. Increases the marketability of company's shares:
Issue of bonus shares reduces the market price per share. he price of the share
may come within the reach of ordinary investors. his increases the marketability
of shares.
4. Enhances prestige of the company:
By issuing bonus shares, the company increases its credit standing and its
borrowing capacity. It reflects financial strength of the company.
5. It helps in financing its projects:
By issuing bonus shares, the expansion and modernization programmes of a
company can be easily financed. he company need not depend on outside
agencies for finances.
6. Retention of managerial control:
(ny new issue of shares has a danger of dilution of managerial control over the
company.
!ince bonus shares are issued to the existing shareholders in proportion to their
current holdings, there is no threat of dilution of managerial control over the
company.
!"antages to the shareholers
1. Ta benefits:
When a shareholder receives dividend in cash, it adds to his total income and is
taxed at usual income tax rates.
,rom this point of view the bonus shares increase the wealth of shareholders. In
case the shareholder re"uires cash he can sell his additional shares.
2. In!ication of higher f"t"re profits:
Issue of bonus shares is generally an indication of higher future profits.
his is because a company declares a bonus issue only when its earnings are
expected to increase.
3. Increase in f"t"re !ivi!en!:
he shareholder will get more dividends in the future even it the company
continues to offer existing cash dividend per share.
4. #igh psychological val"e$
Issue of bonus shares is usually perceived positively by the market. his tends to
create greater demand for the company's shares. In fact, always the share prices
rise at the declaration of bonus shares.
%i#itations of Bonus Issues
$isa!vantages for the company:
1. Issue of bonus shares leads to an increase in the capitalization of the
company. he increased capitalization can be -ustified only if there is increase in
the earning capacity of the company.
2. (fter the issue of the bonus shares the shareholders expect the existing rate of
dividend per share to continue. It is really a challenging task for the company to
retain the existing rate of dividend per share.
3. Issue of bonus shares prevents new investors from becoming the
shareholders of the company .no doubt they can buy the shares in the secondary
market/.
$isa!vantages to the sharehol!ers:
1. !ome shareholders may prefer cash dividend to stock dividend, such
shareholders may feel disappointed .no doubt they can very well sell their bonus
shares and get their money/.