Bonus issues help earn more dividends

When Reliance Industries announced its 1:1 bonus issue a couple of weeks ago, investors termed it a ‘pre-Diwali bonus’. Reason: For every share held, an investor will get one more share, thereby improving the liquidity substantially.

Bonus and stock splits have always made small investors happy, though there is no actual value addition to the company’s balance sheet or the stock price.

On the face of it, stock splits and bonus shares look the same. But in the former, the shares are split. In case a company goes for stock split of 1:1, the number of shares in the hands of the investor double. Also, the face value is halved.

But in case of a bonus, while the number of shares will double and even the stock price will fall, the important part is that there is no impact on the face value of the share. This means the company is signalling that it will be able to service a larger equity.

The investor, therefore, stands to gain in case of dividend payouts because these are given out as a percentage of the share’s face value.

Stock split, on the other hand, is done when the price of any stock goes out of reach of a majority of investors. Most companies that have gone for a split in the recent past are trading below their adjusted price for split.

Experts said RIL went for a bonus issue because of sale of shares from its treasury. “Investors presume the management is selling shares as it believes the stock price has reached its best value,” said Amitabh Chakraborty, president (equity) at Religare Securities.

RIL wanted to signal that there was more upside to the share despite the treasury sale.

Market experts said such bonuses worked better in case of mid- and small-cap companies. “As far as a bonus issue is concerned, it makes more sense in case of small- and mid-cap companies as it increases availability of shares on stock exchanges. It also helps discover a fair valuation for the shares,” said DD Sharma, senior vice-president at Anand Rathi Securities.

“A bonus issue also means that a company will need to spend more from its coffers to pay dividends as the share base expands in the process,” he added.

Assume that there is a medium-cap firm that is doing well and has a track record of regular dividend payments. If its promoters think that the valuation of the company is not reflected in the stock price despite the financial performance, they can announce a bonus issue.

Take Divi’s Laboratories. The company issued bonus in July.

The adjusted price for the bonus issue was Rs 552.97. The adjusted price is the ideal stock price after the bonus. In the past three months, the stock has risen to Rs 560.

But bonus issues do not guarantee an increase in stock prices, which are affected by other factors as well.

The good part is that whenever a consistent dividend-paying company announces a bonus issue, it means the management is signalling a better future performance.

This also means the company will continue to pay dividends in the same proportion though the number of shares has increased. This implies better returns for them in the long run.