Pros and Cons of a Bonus Issue
A bonus issue refers to the issuance of additional shares by a company to its existing shareholders without any extra cost, based on their current shareholding. It is often seen as a signal of confidence by the company’s management and is used to reward shareholders. However, while a bonus issue has several advantages, it also comes with certain limitations.
One key advantage of a bonus issue is improved liquidity. When the number of outstanding shares increases, trading volumes may rise, making the stock more accessible to a wider range of investors. A bonus issue also makes shares more affordable on a per-share basis, which can attract retail participation. Additionally, it reflects the company’s strong reserves and retained earnings, signalling financial stability and long-term confidence in business prospects. For existing shareholders, it increases the number of shares held without requiring additional investment.
On the downside, a bonus issue does not create real wealth for shareholders, as the overall value of their investment remains unchanged. The share price adjusts downward proportionately after the bonus issue. It can also lead to higher expectations among investors, which may create pressure on the company to sustain performance. From a financial perspective, frequent bonus issues may reduce free reserves, limiting funds available for future expansion or contingencies.
For example, if an investor owns 100 shares of a certain large-cap stock, with a 3:1 bonus issue, they would receive 300 additional shares (3 * 100), resulting in 400 shares (100 initial shares + 300 additional shares).
What is a Stock Split
When the number of shares held by investors is multiplied without altering the overall value of a business, it results in a stock split. The difference between a stock split and bonus issues is that in a bonus issue, the existing shareholders receive additional shares as a reward. Such actions ensure that the nominal value of shares while adjusting their quantity is maintained.
In a stock split, the trading price of individual shares is lowered, which allows the company to maintain its market cap while increasing the number of shares outstanding.
For investors, understanding the difference between bonus shares and a stock split helps them make strategic decisions concerning their investments.
Pros And Cons of a Stock Split
A stock split is a corporate action where a company increases the number of its outstanding shares by dividing existing shares, without changing its overall market value. While the share price adjusts proportionately, the move can influence investor perception, liquidity, and trading behaviour. Understanding both the advantages and limitations helps you interpret why companies choose to implement stock splits.
Pros of a stock split
- Improves affordability: A lower share price after a split makes the stock appear more accessible to retail investors, encouraging broader participation without changing the company’s fundamentals.
- Enhances liquidity: With more shares available at a lower price, trading volumes often increase, making it easier for investors to enter and exit positions.
- Positive market perception: Stock splits are often interpreted as a signal of management confidence in the company’s long-term growth, which can support investor sentiment.
- Wider investor base: A reduced share price can attract new categories of investors who may have been constrained by higher prices earlier.
Cons of a stock split
- No fundamental value change: A stock split does not improve earnings, cash flows, or business performance, even though it may create short-term excitement.
- Short-term volatility: Increased trading activity after a split can lead to price fluctuations, especially if expectations are driven by sentiment rather than fundamentals.
- Administrative and compliance costs: Executing a stock split involves regulatory filings, communication costs, and operational adjustments for the company.
- Misinterpretation risk: Some investors may incorrectly view a stock split as a value-enhancing event, leading to decisions based on perception rather than financial analysis.
Bonus Issue vs Stock Split
Here is a clear, comparison-focused table written in simple language and suitable for educational content.
Basis
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Bonus issue
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Stock split
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Meaning
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A bonus issue involves issuing additional shares to existing shareholders free of cost in a fixed ratio.
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A stock split involves dividing existing shares into multiple shares by reducing the face value.
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Impact on shareholding
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Shareholders receive extra shares without any payment, increasing the total number of shares held.
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Shareholders hold more shares after the split, but their proportional ownership remains unchanged.
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Effect on share price
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The share price adjusts downward proportionately after the bonus issue.
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The share price reduces based on the split ratio, making shares more affordable.
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Face value
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Face value of shares remains unchanged in a bonus issue.
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Face value of shares is reduced according to the split ratio.
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Company reserves
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Bonus shares are issued by capitalising company reserves.
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No reserves are used in a stock split.
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Liquidity impact
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Improves liquidity by increasing the number of shares in the market.
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Improves liquidity by lowering the share price and increasing trade volumes.
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Cash flow impact
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No cash outflow for shareholders or the company.
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No cash movement involved for either the company or shareholders.
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Investor perception
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Viewed as a reward to long-term shareholders and a sign of financial stability.
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Seen as a move to make shares more accessible to retail investors.
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Regulatory approval
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Requires approval from shareholders and regulatory filings.
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Requires regulatory approval but does not involve reserve adjustments.
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Overall objective
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To reward shareholders and strengthen confidence.
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To enhance market participation and trading activity.
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Bonus Issue vs Stock Split: What Happens to the Share Price?
When a company announces a bonus issue or a stock split, the share price adjusts to reflect the increased number of shares, but the overall investment value remains unchanged.
In a bonus issue, existing shareholders receive additional shares free of cost in a fixed ratio, such as one bonus share for every two held. After the bonus, the share price falls proportionately because the company’s market capitalisation stays the same, while the number of outstanding shares increases. Your total holding value remains unchanged on the record date.
In a stock split, the face value of each share is divided, such as splitting one share of face value Rs. 10 into two shares of Rs. 5 each. The market price adjusts downward in the same ratio as the split. This makes shares more affordable and improves liquidity but does not alter the company’s fundamentals.
In both cases, the reduced share price reflects arithmetic adjustment rather than a real gain or loss for investors.
Also read: T2T stocks
How does the share split vs bonus issue affect you as an investor?
Bonus shares and stock split are methods companies use to reward their shareholders without charging any form of additional payment. Here, we list the main points regarding bonus shares and a stock split so you can understand how they may affect you as a shareholder:
Meaning
- Bonus issue: These are the additional shares offered to shareholders free of cost.
- Stock split: This results in dividing the company's existing outstanding shares into multiple shares.
Example
- Bonus issue: In a 2:1 bonus issue scenario, shareholders receive two shares free for every one share held. Thus, for 10 shares, investors will receive 30 (2 * 10 + 10) shares in total.
- Stock split: In a 2:1 stock split ratio scenario, every share held by a shareholder becomes two shares. For every 50 shares held, the share count increases to 100 shares.
Face value
- Bonus issue: No change occurs in terms of face value.
- Stock split: Face value reduces in the same ratio as the split.
Company rationale
- Bonus issue: This is considered an alternative to dividends and a means to distribute accumulated reserves to shareholders.
- Stock split: This is aimed at increasing share liquidity, reducing share price, and making it more affordable for a larger spectrum of investors.
What is the company’s rationale?
A company’s rationale explains the underlying reasons behind a corporate action, such as a bonus issue or stock split. Typically, the objective is to improve share affordability and enhance market liquidity without altering the company’s overall valuation. By increasing the number of shares in circulation, the company aims to make its stock more accessible to a wider set of investors.
Another key reason is to signal confidence in long-term business prospects. Corporate actions often reflect management’s belief that earnings growth and operational performance can support a larger equity base. In some cases, such steps also help align the share price with industry peers or broader market expectations.
Additionally, companies may use these actions to reward existing shareholders without distributing cash, thereby preserving internal funds for expansion, debt reduction, or strategic investments. Overall, the rationale centres on improving market perception, participation, and long-term shareholder engagement while maintaining financial stability.
Final thoughts
Bonus shares and stock splits both raise the number of shares while lowering the market price per share. However, only a stock split changes the face value. Bonus issues reflect a transfer of reserves into share capital, whereas stock splits aim to improve affordability. Understanding these differences helps you make more informed investment decisions.
