Step-By-Step Guide To Understanding Bonus Shares

Stocks can be confusing, but bonus shares make things easier for investors. They are like gifts from companies to their shareholders. If you own shares, you might get extra ones without paying. Let’s understand how bonus shares work and why they matter in simple terms. Keep reading this blog to learn more!

What Are Bonus Shares?

Bonus shares are extra shares a company gives to its existing shareholders at no cost. These shares are issued in a specific ratio, such as 1:1 or 2:1, meaning shareholders receive additional shares based on their current holdings. 

For instance, in a 2:1 bonus issue, a shareholder gets two extra shares for every share they own. While the number of shares increases, the overall value of the investment remains the same, as the share price adjusts accordingly. Companies issue bonus shares to reward shareholders, enhance stock liquidity, and reflect financial strength.

Example: Bonus Share Issue 

Let's consider a scenario where you own 100 company shares, each priced at ₹50. The company announces a 3:1 bonus issue, meaning you receive 3 additional shares for every 1 share you hold.

Read More - Benefits of Investing in Preference Shares Explained

Explanation:

• Bonus Shares Received: 100 original shares × 3 = 300 bonus shares
• Total Shares After Bonus: 100 original + 300 bonus = 400 shares
• Adjusted Share Price: ₹50 ÷ 4 = ₹12.50 (since total shares quadrupled)
• Total Investment Value: 400 shares × ₹12.50 = ₹5,000

Even though the share price decreases, the total value of your investment remains unchanged.

2. How Are Bonus Shares Issued?

Bonus shares are extra shares given free to existing shareholders. Companies issue them by converting reserves (like profits) into share capital. This process rewards shareholders without using cash.

Steps to Issue Bonus Shares

• Step 1: Board Meeting: Decide bonus ratio and approve the issue.
• Step 2: Shareholder Approval: Hold a general meeting to get shareholder consent.
• Step 3: Regulatory Filing: Submit required forms to the authorities.
• Step 4: Allotment: Distribute bonus shares to eligible shareholders.
• Step 5: Share Certificates: Issue certificates or credit shares to accounts.

Example: Bonus Share Issue

Suppose a company has the following:

• Existing Shares: 1,00,000
• Face Value per Share: ₹10
• Reserves: ₹30,00,000

• Bonus Ratio: 1:5 (1 bonus share for every 5 held)

   

Explanation:

• Bonus Shares Issued: 1,00,000 ÷ 5 = 20,000
• New Share Capital: ₹10 × 20,000 = ₹2,00,000
• Updated Share Capital: ₹10,00,000 + ₹2,00,000 = ₹12,00,000
• Updated Reserves: ₹30,00,000 - ₹2,00,000 = ₹28,00,000

The total capital remains the same; only the composition changes.

Also Read - How Do Equity Shares Differ From Debentures?

3. Impact on Share Price

When a company issues bonus shares, the total number of shares increases, but the company's overall value remains the same. As a result, the price per share decreases proportionally to maintain the same total investment value. This adjustment ensures that shareholders' total investment remains unchanged, even though they hold more shares at a lower price per share.

Example: 1:1 Bonus Issue

Explanation:

• Bonus Shares Received: 100 original shares × 1 = 100 bonus shares
• Total Shares After Bonus: 100 original + 100 bonus = 200 shares
• Adjusted Share Price: ₹150 ÷ 2 = ₹75 (since total shares doubled)
• Total Investment Value: 200 shares × ₹75 = ₹15,000

This example shows that while the number of shares increases and the price per share decreases, the overall value of the investment remains the same.

4. Types of Bonus Shares

There are two types: Fully Paid and Partly Paid bonus shares.

Types of Bonus Shares

Example:

Cynthia owns 200 shares of a company. The company gives a 1:1 fully paid bonus. So, Cynthia gets 200 free shares. Now, she has 400 shares total.

Later, another company offers partly paid shares costing ₹100 each. Cynthia pays ₹40 now. She will pay the remaining ₹60 later when the company asks.

5. Advantages for Shareholders

Bonus shares provide several benefits to shareholders:

• Increased Shareholding: Shareholders receive additional shares at no extra cost, increasing their total holdings.
• Enhanced Liquidity: With more shares in circulation, trading becomes easier, improving market liquidity.
• Tax Efficiency: Bonus shares are not taxed at the time of receipt; taxes apply only upon sale.
• Signal of Financial Health: Issuing bonus shares indicates the company's strong financial position, boosting investor confidence.

Example: 3:1 Bonus Issue

Explanation:

• Bonus Shares Received: 50 original shares × 3 = 150 bonus shares
• Total Shares After Bonus: 50 original + 150 bonus = 200 shares
• Adjusted Share Price: ₹120 ÷ 4 = ₹30 (since total shares quadrupled)
• Total Investment Value: 200 shares × ₹30 = ₹6,000

Conclusion

Bonus shares are free shares given to existing shareholders. They increase the number of shares but reduce the price per share, keeping the total value the same. Companies issue them to reward shareholders and show strength. They improve liquidity and are tax-friendly. Bonus shares benefit investors without extra cost.

FAQs

1. What are bonus shares?

Bonus shares are free extra shares given by a company to its existing shareholders.

2. Do bonus shares increase my investment value?

No, the total value remains the same, but you get more shares at a lower price.

3. Why do companies issue bonus shares?

To reward shareholders, improve liquidity, and show strong financial health.

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