Bonus Shares

An extra share that a company provides to its shareholders free of cost is known as a bonus share. The company issues these shares instead of paying out cash dividends. This means that the company is sharing a portion of its profit through these shares.

Bonus shares give investors the opportunity to have more of the company’s stock without incurring additional costs. Shareholders now hold more shares as a result. But their investment's total worth stays the same.

Let’s assume a company gives a 1:1 bonus issue. In this case, for every share they own, shareholders receive an additional share. An investor will now receive an extra 100 shares at no cost if they already own 100 shares. With this, they would own 200 shares in total.

In order to reward shareholders, increase stock liquidity and lower the cost of shares, companies issue bonus shares. Apart from this, companies also issue bonus shares to show their sound financial standing.

Bonus shares increase an investor's holdings without forcing them to make any additional payments. The business distributes its retained earnings to current owners in a predetermined ratio after converting them into new shares. Bonus shares lower the share price since the company's total market value is now distributed over a larger number of shares. But they have no effect on the overall worth of an investor's holdings.

Example of how bonus shares work

Suppose a company declares a 2:1 bonus issue. This means you will get two new shares free of cost for each share you had earlier. If you had 50 shares before the bonus issue, you will now have 150 shares. The total value of your holding remains the same even if the stock's value declines.

Bonus shares can be good for investors, but they also come with certain adverse effects.

Advantages of bonus shares

• You get extra shares for free, which can increase your future profits.
• Investors who hold shares for the long term may benefit as they own more shares without additional investment.
• Bonus shares raise the quantity of shares available. What this does is lower the stock's price. This draws in new investors and, in turn, increases its value.
• Organisations that offer bonus shares usually have solid financial records. This shows that they are successful and expanding.

Disadvantages of Bonus Shares

• Unlike cash dividends, bonus shares do not provide money to investors. Instead, they increase the number of shares.
• After a bonus issue, the share price usually reduces, meaning your per-share value decreases.
• If the company does not perform well in the future, even extra shares may not bring much benefit.

Bonus shares do lower the share price. This is because the company's total worth is now distributed over a larger number of shares. However, this doesn’t affect the value of shares that an investor is holding.

Example of Share Price Change After a Bonus Issue

Let’s say a company announces a 1:1 bonus issue. This means for every share you own, you get one extra share for free. Before the bonus, the stock was priced at Rs 500 each. After the issue, the price drops to Rs 250 per share. But now you have more shares. If you had 100 shares worth Rs 50,000 earlier, you will now hold 200 shares. The total value remains Rs 50,000. The share price falls because the number of shares increases. But your investment stays the same. If the company performs well in the future, the price per share may go up again.