Bonus shares are additional shares that are issued to the existing shareholders of the company. Recently a slew of companies across sectors including Biocon, ICICI Bank , Wipro and many others have announced bonus shares.
An investor is allotted bonus shares in accordance with their current holdings; which means for every single share held by the investor, the company may issue one bonus share. This way earning per share for the investor gets reduced to half as he now holds 2 shares. But the total EPS of investor remains unaffected. Likewise, for the company also, financials of the company do not change. Only the stock price is lowered. So, the issue of bonus shares for investors is for free with no acquisition cost.
Many a times, bonus shares are issued to increase retail participation in the stock. With more number of shares available for trading as a result of bonus issue, the price for each of the share is reduced and investors can then buy a particular stock at a lower price.
For the company issuing bonus shares
Trading volume of its stock on the stock exchange increases as with issue of bonus shares more of shares are traded. So, more number of shares are available for trading in the market. For instance, a company with 5 million shares announces a bonus issue of 1:1 then the total number of shares shall become 10 million. This would reduce the earning per share or EPS for the company.
Likewise, the reserves or surplus amount from which the bonus shares are tendered is reduced by the same amount. And, accordingly the share capital increases by the same amount.
As per the Union Budget 2016-17, a 10% tax is levied on income from dividend over Rs. 10 lakh. The tax incidence applies to individuals, HUFs, partnership firms and private trusts. Issuance of bonus shares instead of high dividend payout enable companies to save on dividend distribution tax.
As per experts, if an investor is interested to invest in a company share which is to announce bonus shares, he should check on fundamentals of the company at first. As strong fundamentals and growth prospects would only increase the stock price of the company in the long run.