Definition
A bonus issue, also known as a stock dividend, refers to the additional shares issued by a company to its existing shareholders free of charge, based on the number of shares that a shareholder owns. These are issued from the company’s accumulated earnings. It increases the company’s share capital but not its net assets.
Phonetic
The phonetic transcription for the keyword “Bonus Issue” is:/bəʊnəs ˈɪʃuː/
Key Takeaways
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- Existing Shares Are Capitalized: A bonus issue, also known as a scrip issue or a capitalization issue, involves capitalizing a part of the company’s retained earnings or reserves to issue additional shares to existing shareholders. Essentially, the company converts its profits into shares instead of distributing it as dividends.
- Proportional Allocation: The shares are allocated to shareholders in proportion to their existing shareholding. This increases the number of shares available but not the value of the company, meaning the price per share decreases. However, total share value remains the same for the investor as they now own more shares.
- No Direct Cash Outflow: A company might use a bonus issue rather than cash dividends as a method of providing income to shareholders without disturbing their cash reserves. This can be an attractive option for companies looking to reward their shareholders but conserve cash for other business operations or investments.
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Importance
A Bonus Issue, also known as a stock dividend, is crucial in the field of business and finance because it involves the distribution of additional shares to a company’s existing shareholders without any extra cost. This business method is frequently used by companies with a low cash balance but still wish to reward their shareholders. Importantly, bonus issues increase the total number of shares outstanding, which can make the shares more affordable to investors and increase liquidity. However, it does not add to the company’s net assets, maintaining the same total asset value but dividing it over a larger number of shares. Hence, the importance of a bonus issue lies in providing shareholder rewards, potentially improving liquidity, and managing investment perceptions by altering share affordability, while enabling the company to conserve its cash.
Explanation
A bonus issue, usually employed by companies with a significant reserve of undistributed earnings, is an approach used to distribute these surplus earnings back to the shareholders. Instead of paying out dividends, a company may choose to issue additional shares to its shareholders based on the proportion of the current shareholding. This means, the shareholders receive additional shares without making any additional investment. By doing so, the company is essentially converting its profits into share capital.The main purpose of a bonus issue is to stimulate trading and improve liquidity in the market without eroding the company’s cash reserves. It accomplishes this by increasing the number of shares in circulation, hence making them more affordable to investors, and in turn enhancing the stock’s marketability. Also, by rewarding shareholders with extra shares, a company can maintain investor confidence and relations. Additionally, this move can make the business appear healthier and more profitable to external observers and prospective investors, thereby potentially raising its market value.
Examples
1. Apple Inc: In 2014, the tech giant Apple carried out a bonus issue, also known as a stock split, in the ratio of 7:1. This means for every one share held by an investor, they received seven new ones. The decision was taken by Apple to make the stocks more affordable for small investors.2. Walmart Inc: Walmart announced a bonus issue in 1999 in the form of a two-for-one stock split. For each share of Walmart owned pre-split, the shareholder now owned 2 shares. This was done to increase the liquidity of the shares and to ensure that the price per share doesn’t get too high.3. Reliance Industries Limited: This Indian multinational conglomerate company announced a bonus issue in 2017 in the ratio of 1:1. This implies that the shareholders received one additional share for each share held by them. This was done to commemorate 40 years of the company and reward loyal shareholders.
Frequently Asked Questions(FAQ)
What is a Bonus Issue?
A Bonus Issue, also known as a scrip issue or a capitalization issue, is an offer of free additional shares to existing shareholders. Companies issue these to encourage investment without necessarily needing to surrender cash.
How does a Bonus Issue work?
A Bonus Issue works by giving shareholders extra shares instead of dividends. The quantity of extra shares a shareholder receives is typically proportionate to the number of shares they already own.
Who is eligible for a Bonus Issue?
All shareholders that are registered at the time of the Bonus Issue are eligible for it. The new shares are given for free in a specified ratio to the shares already held.
What are the advantages of a Bonus Issue?
A Bonus Issue increases the number of outstanding shares, which can enhance liquidity. It also shows the company’s confidence in its future performance without affecting its cash resources.
Why do companies issue a Bonus Issue?
Companies issue a Bonus Issue to reduce the stock price, making it more affordable for potential investors. It’s also a positive signal to the market that the company is in a strong enough financial position to distribute shares from its reserves.
What is the impact of a Bonus Issue on the stock price?
Theoretically, the stock price should decrease following a Bonus Issue because the number of shares increases but the company’s equity remains the same. However, due to the positive signal that a Bonus Issue can send about a company’s financial health and confidence, this may not always occur.
How is a Bonus Issue different from a Stock Split?
While both increase the number of shares outstanding, a Stock Split merely divides the existing shares into more shares. However, a Bonus Issue creates new shares from the reserves and gives them to existing shareholders.
Are Bonus Issues taxable?
Laws vary by country, but typically, Bonus Issues are not taxable at the time of receipt. They may come into play for capital gains calculations if/when the shares are later sold. Investors should consult a tax advisor for details specific to their situation.
Related Finance Terms
- Capitalization of Profits
- Issue of Bonus Shares
- Record Date for Bonus Issue
- Rights Issue vs Bonus Issue
- Reserves and Surplus in Bonus Issue
