Definition of Bonus Share
Bonus shares are additional shares issued to existing shareholders without additional cost, in proportion of their existing shares that a shareholders own. This are issued instead of cash dividend.
Total number of shares increases in proportion of existing shares. Say for example, Mr. Allen holds 300 Shares of XUZ company. XUZ company declares 3:1 bonus, that is for every 1 share he will get 3 shares for free. Hence, his total shares will be 1,200 shares where (300*3) = 900 Shares is Bonus Shares and remaining 300 shares his current holding.
Reasons for issuing Bonus Shares
Company offers bonus shares instead of Cash dividend, and may use the fund in another project. Again, company may issue bonus shares to encourage retail participation and increase their equity base. It happens when the share price of a company is very high, and it becomes difficult to for new investors to buy shares of that particular company. Increase in the number of shares reduces the price per share. But overall capital will same after bonus declare.
Bonus shares are additional shares issued to existing shareholders without additional cost, in proportion of their existing shares that a shareholders own. This is issued instead of cash dividend.
Advantages of Bonus Shares
The advantages of bonus shares can be discussed from the perspective the Company’s point of view and shareholder’s point of view:
Issue of bonus shares facilitates a company to conserve cash which can be further reinvested for carrying out different operational and functional activities.
From Company’s Point of view:
When a company is not in a position to pay cash dividend, offers stock dividend to the shareholders. Extra shares in the form of bonus may motivate them to stay with the company. Again, sometimes it may enhance the reputation of the company.
From investor’s point of View:
Cash dividend associates with tax burden but bonus shares are free from tax. Again, , bonus shares increases the number of shares of investors, and when company wish to pay dividend, the investors will get more dividend for their excess shares.
Disadvantages of bonus shares
From Company’s point of view:
This is common practice issuing additional shares, will generate additional cash to the company but, when issus bonus shares, no additional cash is not generate. Again, issues bonus shares increases the number of shares which will decrease the EPS of the company and the price of the share may fall.
From investors point of view
Not all investors are happy with the bonus shares. As they may be interested in cash to fulfill their other objectives for which they have made this investment.
It does not give any extra wealth to shareholders as share price drops to some proportionate amount to maintain the market capital of the company same as before.
These are some of the advantages and disadvantages of bonus shares. They can be issued after twelve months from the issue of shares for consideration and only out of reserves which are created from profit realized in cash that is a company must have a significant amount of undistributed profit. Also this proposal made by the board of directors is first approved by existing shareholders in a general meeting.