Types of Bonus Shares

1. Fully Paid Bonus Shares

These shares are issued at no additional cost and are fully paid up. They can be distributed from various sources, including:

• Profit and loss accounts
• Capital reserves
• Capital redemption reserves
• Security premium accounts

2. Partly Paid Bonus Shares

Partly paid shares require shareholders to pay only a portion of the total issue price. The remaining amount can be paid in installments when the company issues a call.

Why Do Companies Issue Bonus Shares?

1. Retaining Earnings

Companies often issue bonus shares to utilize retained earnings, converting profits into shares without affecting cash reserves. This helps increase the share capital.

2. Improving Liquidity

Issuing bonus shares can enhance a company's marketability. More shares in circulation can lead to higher transaction volumes, making it easier for investors to buy or sell shares.

3. Adjusting Stock Prices

Bonus shares can lower the price per share, making them more affordable for a broader range of investors, potentially increasing demand.

Example of Bonus Shares: Shriram Pistons & Rings (SRPL)

Consider a shareholder of Shriram Pistons & Rings in 1991 who owned 10 shares. Over time, they received bonus shares, resulting in a total of 960 shares today. With the current trading price at Rs 2,060, this investment would now be valued at approximately Rs 19.78 lakhs. This illustrates how consistent company performance, combined with bonus shares, can lead to significant wealth creation.

Eligibility for Receiving Bonus Shares

Not all shareholders automatically receive bonus shares. Companies typically set a record date to determine eligibility. Shareholders must hold shares in their demat account as of this date.

Example of Bonus Share Announcement:

• Announcement Date: 13-06-2023
• Bonus Ratio: 1:1
• Record Date: 24-07-2023
• Ex-Bonus Date: 24-07-2023

What This Means:

• Announcement Date: Date when the company announces the bonus shares.
• Bonus Ratio: Indicates how many bonus shares will be issued for each existing share.
• Record Date: Cut-off date for determining eligible shareholders.
• Ex-Bonus Date: Date from which shares trade without entitlement to the bonus.

Advantages of Bonus Shares

1. Increased Holdings: Shareholders benefit from more shares without additional investment, potentially increasing wealth over time.
2. Enhanced Liquidity: More shares can lead to increased trading activity and better liquidity in the market.
3. Positive Signal: Companies issuing bonus shares often demonstrate confidence in their financial health and future prospects.

Disadvantages of Bonus Shares

1. Non-Cash Nature: Bonus shares do not bring cash into the company, potentially leading to a decrease in dividends per share.
2. Risk of Overcapitalization: Issuing too many bonus shares can result in excess capital that may not be needed for operations.
3. Opportunity Cost: Retained earnings used for bonus shares could have funded acquisitions or profitable projects.

Guidelines for Issuing Bonus Shares

1. Approval: The company must have approval in its Articles of Association.
2. Shareholder Sanction: A special resolution at a general meeting may be required.
3. SEBI Guidelines: Companies must adhere to regulations set by the Securities and Exchange Board of India (SEBI).
4. Capital Limits: The total share capital post-issue should not exceed the authorized share capital.
5. Loan Notification: Companies must inform any financial institutions involved if loans are taken.
6. Reserve Bank Consent: Prior notification and consent from the Reserve Bank are required.
7. Fully Paid Shares: Bonus shares issued must be fully paid to avoid liabilities for shareholders.

How Bonus Shares Differ from Stock Splits?

While both bonus shares and stock splits increase the number of shares available in the market, they differ fundamentally:

• Bonus Shares: Issued at no cost from retained earnings.
• Stock Splits: Increase the number of shares without affecting the company's cash reserves.

Note: Bonus shares serve as a mechanism for companies to reward shareholders while retaining earnings for growth. By understanding the advantages, disadvantages, and the eligibility criteria for receiving bonus shares, investors can make informed decisions that align with their investment strategies.