What is a bonus issue?
When a company gives free shares to its existing shareholders, it is called a bonus issue. This is one way of rewarding the shareholders instead of paying dividends. The bonus issue increases the number of shares but does not change the value of the investment.
Understanding Bonus Issue
Bonus issues are additional shares a company distributes to its shareholders without increasing market value. Companies usually use their profits or existing share reserves to finance a bonus issue. When issued, the bonus shares are not subject to tax; however, shareholders must still pay capital gains tax if they sell them for a profit.
A company issues bonus shares in proportion to each shareholder’s ownership. Bonus shares do not affect the shareholders’ equity because they are issued in a fixed ratio that maintains the same relative stake of each shareholder as before the issue. For example, a two-for-one bonus issue gives each shareholder two shares for every one they own before the issue. A shareholder with 500 shares receives 1,000 bonus shares (500 × 2 ÷ 1 = 1,000).
What is the purpose of bonus shares for a company?
These are several main reasons why companies choose to issue bonus shares. Issuing bonus shares attract more retail investors to their stock by making it more affordable and liquid. When Companies run out of cash, they issue bonus shares instead of paying dividends. Issuing bonus shares also make the company look financially healthy and capable of creating more value for shareholders.