Bonus Issue

Bonus Issue — Meaning, Definition & Full Explanation

A bonus issue, also known as a scrip issue or capitalisation issue, is a corporate action where a company distributes additional shares to its existing shareholders free of cost. These extra shares are issued proportionally to the number of shares already held by each shareholder, funded by the company's accumulated reserves. This process increases the total number of shares outstanding without diluting the ownership percentage of existing shareholders.

What is Bonus Issue?

A bonus issue represents a company's decision to convert a portion of its accumulated profits or reserves into share capital, distributing these new shares to its current shareholders. Instead of paying out cash dividends, which would deplete the company's cash reserves, a bonus issue allows a company to reward its shareholders while retaining cash for business operations or expansion. The primary purpose of a bonus issue is to increase the liquidity of the company's shares by increasing the number of outstanding shares and often reducing the per-share market price, making them more affordable for a wider range of investors. It also signals financial health and confidence in future earnings to the market.

How Bonus Issue Works

The process of a bonus issue involves several key steps. First, the company's board of directors approves the bonus issue proposal, specifying the ratio (e.g., 1:1, meaning one bonus share for every share held). This proposal then requires approval from the company's shareholders at an Extraordinary General Meeting (EGM). Once approved, the company sets a "record date" – only shareholders registered in the company's books on this date are eligible to receive the bonus shares.

Following the record date, an "ex-bonus date" is announced, after which shares trade without the entitlement to the bonus issue. The company then allots the new shares to eligible shareholders, capitalising its reserves (such as general reserves or securities premium account) by transferring an equivalent amount to its share capital account. Finally, these newly issued shares are listed on the stock exchanges, and their market price typically adjusts downwards proportionally to reflect the increased number of shares. For instance, if a share trading at ₹200 undergoes a 1:1 bonus issue, its theoretical price after the bonus issue would be ₹100.

Bonus Issue in Indian Banking

In India, bonus issues are governed primarily by the Securities and Exchange Board of India (SEBI) (Issue of Capital and Disclosure Requirements) Regulations, 2018 (ICDR Regulations). These regulations stipulate the conditions under which a listed company can undertake a bonus issue, including requirements for fully paid-up shares, no default in debt service, and specific disclosures. The Reserve Bank of India (RBI) indirectly plays a role as a regulator for banks, which may also undertake bonus issues, subject to their own capital adequacy norms and RBI's oversight.

Indian companies, including prominent ones like Reliance Industries, Infosys, and SBI, have historically used bonus issues to reward shareholders and manage their capital structure. The bonus issue ratio is always clearly stated, such as 1:2 (one bonus share for every two shares held) or 1:1. These corporate actions are closely watched on stock exchanges like the BSE and NSE. For candidates appearing for banking exams like JAIIB and CAIIB, understanding bonus issues is crucial as they form an important part of capital market operations, corporate finance, and shareholder wealth management topics. The accounting treatment, particularly the capitalisation of reserves, is also a key aspect covered in these examinations.

Practical Example

Consider "Phoenix Pharma Ltd," a well-established pharmaceutical company listed on the National Stock Exchange (NSE). The company has accumulated significant reserves over the years and wants to reward its loyal shareholders without impacting its cash flow, as it plans a major R&D investment. On April 15, 2023, the board of directors announces a 1:1 bonus issue, meaning one bonus share for every share held. The announcement is followed by shareholder approval on May 10, 2023.

The company sets May 25, 2023, as the record date. Ramesh, a salaried employee in Bengaluru, owns 500 shares of Phoenix Pharma Ltd, which he bought at an average price of ₹1,200 per share. Since he holds the shares on the record date, he becomes eligible for the bonus issue. On June 5, 2023, Ramesh's demat account is credited with an additional 500 shares, bringing his total holding to 1,000 shares. The market price of Phoenix Pharma Ltd's shares, which was around ₹1,300 before the ex-bonus date, theoretically adjusts to approximately ₹650 per share. Ramesh now has more shares, but the total value of his investment (number of shares × market price) remains largely the same immediately after the bonus issue.

Bonus Issue vs Stock Split

While both a bonus issue and a stock split increase the number of shares and reduce the per-share market price, their underlying mechanisms and accounting treatments differ significantly.

Feature	Bonus Issue	Stock Split
Source	Capitalisation of company's reserves	Division of existing shares
Face Value	Remains unchanged	Reduces proportionally
Share Capital	Increases (reserves converted to capital)	Remains unchanged
Cash Outflow	None	None

A bonus issue involves converting accumulated profits or reserves into share capital, thereby increasing the company's paid-up capital. In contrast, a stock split simply divides existing shares into multiple new shares, reducing their face value but leaving the total share capital unchanged. A bonus issue is often seen as a reward funded by past profits, while a stock split is primarily a tool to improve liquidity and make shares more accessible to a broader investor base.

Key Takeaways

• A bonus issue involves distributing free additional shares to existing shareholders from a company's accumulated reserves.
• It does not involve any cash outflow from the company, unlike a cash dividend.
• The face value of each share remains unchanged after a bonus issue.
• The total paid-up capital of the company increases as reserves are capitalised.
• The market price per share typically adjusts downwards proportionally to the bonus ratio.
• Bonus issues enhance share liquidity and can make shares more affordable for retail investors.
• In India, bonus issues by listed companies are regulated by SEBI (ICDR Regulations, 2018).
• Shareholders do not incur immediate tax liability on receiving bonus shares in India; tax is applicable only upon their sale.

Frequently Asked Questions

Q: Are bonus shares taxable in India? A: In India, bonus shares themselves are generally not taxable at the time of allotment to the shareholder. However, any capital gains realised from the sale of these bonus shares later will be subject to capital gains tax, calculated based on the cost of acquisition (which is typically considered zero for bonus shares) and the holding period.

Q: How does a bonus issue affect the share price? A: A bonus issue typically causes the market price of the company's shares to adjust downwards proportionally to the bonus ratio. For example, in a 1:1 bonus issue, the share price is expected to halve, as the number of shares doubles, maintaining the overall market capitalisation (total value) of the company.

Q: Why do companies issue bonus shares instead of cash dividends? A: Companies issue bonus shares to reward shareholders while conserving cash for business operations, expansion, or debt reduction. It also increases the number of outstanding shares, making them more liquid and accessible to a wider pool of investors by reducing the per-share market price.