[boringinvestor]

Bonus shares are additional shares given to the current shareholders without any additional cost, based upon the number of shares that a shareholder owns. These are company’s accumulated earnings which are not given out in the form of dividends, but are converted into free shares.

The basic principle behind bonus shares is that the total number of shares increases with a constant ratio of number of shares held to the number of shares outstanding. For instance, if Investor A holds 200 shares of a company and a company declares 4:1 bonus, that is for every one share, he gets 4 shares for free. That is total 800 shares for free and his total holding will increase to 1000 shares.

Companies issue bonus shares to encourage retail participation and increase their equity base. When price per share of a company is high, it becomes difficult for new investors to buy shares of that particular company. Increase in the number of shares reduces the price per share. But the overall capital remains the same even if bonus shares are declared. Below are some advantages of Bonus issues-

From Investor’s Point of View

1) Investors do not have to pay any tax while receiving bonus shares from the company.
2) Bonus shares are considered beneficial for long-term shareholders of the company looking to multiply their investment.
3) Bonus shares are free of cost to shareholders as they are issued by the company, which increases the outstanding shares of an investor in the company and enhances the liquidity of the stock.
4) Bonus shares help build the trust of an investor in the company’s business and operations because they have invested in the company and, in turn, gives capital to the investor.

From Company’s Point of View

1) The issue of bonus shares enhances the company’s value and increases positions and image in the market, gaining the trust of existing shareholders and attracting several small investors to be a part of the stock market.
2) The companies have more free-floating shares with the issue of bonus shares in the market.
3) Issue of Bonus shares benefits companies to get themselves out of the situation where they are not able to or simply not prefer to pay cash dividends to their shareholders.

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