What is the Difference between Bonus issue & Stock Split?
Difference between Bonus issue & Stock Split
We often hear in the news that some XYZ company has announced bonus shares to its investors and some other company is going for stock split. Sometimes, we also see that whenever a company announces Stock Split or Bonus Issue, it will have an immediate impact on stock price in the stock exchanges.
At the outset, both — Stock Split and Bonus Issue — appear as one and the same from an investor point of view as he/she will be receiving additional shares without paying any extra amount. However, there are lot of differences between the two concepts an investor must know.
What is a Bonus Issue?
A bonus issue is when existing shareholders get extra shares in a certain proportion. For example, if a 4:1 bonus issue is announced, shareholders will receive four shares for every one share they hold. So if an investor holds 10 shares of a certain company, the investor will get 40 (4*10) shares in total.
What is a Stock Split?
A stock split is when the number of shares gets multiplied. There is a ‘split’ in the number of shares held. Technically no new shares are being issued by the company. The existing number of shares are being divided or split. Say a company announces a stock split in the 1:2 ratio. It means for every 1 share held, it will become 2 shares, for every 100 shares held, the share count will become 200 shares.
Stock Split & Bonus Basics
Stock Split is meant to improve liquidity by breaking a share into smaller size while Bonus Issue is meant to distribute gains of accumulated earnings without paying cash to the shareholders.
A bonus issue is an additional share given to existing shareholders while a stock split is the same share divided into two or more as per the split ratio.
In bonus and stock split, fundamentals of the company are not going to change, the issued share capital remains the same, the revenue remains the same, and the profit remains the same too, the only thing which will be affected is the face value and reserves capital.
If the company goes for a stock split from the face value of 10 to the face value of 5. The number of stocks will get double and the price will get adjusted, whereas in bonus face value remains the same but the price will get adjusted in proportion to the bonus ratio.
Why companies go for bonus?
Bonus is an alternative to dividend and giving away accumulated reserves. But if company doesn’t want to pay out as cash, it can go for bonus shares.
Why companies go for stock split?
Companies go for to increase share liquidity, which reduces share price and make it affordable for more shareholders.
This is another key difference between bonus issue and stock split.
A bonus issue is considered as an alternative by many companies to dividends. In dividends, a company gives out extra money to shareholders from its net profits, in a bonus issue the shareholders are given extra shares. It increases the share capital of the company and makes it attractive for investors.
It is also a great method to increase retail participation. The stock may become a difficult purchase in case it is trading very high.
Bonus issue expands a company’s equity base and makes it more liquid.
On the other hand, a company may announce a stock split when it wants to reduce the price of shares and make it more affordable for investors. This is also done to increase the liquidity of the shares.
To Sum Up
Both, stock split and bonus issue multiply the number of shares and bring down the market value however it is only stock split that has an impact on the face value. This is a key difference between bonus issue and stock split. Bonus issues indicates that the company has generated extra reserves that it can transfer to its share capital. Stock split is an initiative to make expensive shares available for a larger shareholder audience.
Stock splits and bonus issues bring the stock price into a popular trading range. Retail and small investors typically prefer to buy stocks that are relatively denominated lower. While it is correct that value has nothing to do with the price, it is true that bringing a stock price within reach is considered to be more investor friendly.
Finally bonuses and splits have been generally welcomed by shareholders. It does not change the ROE in any way, but enhances interest in the stock by bringing it within a more popular trading range. That, probably, explains their popularity!
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