Bonus Issue of Shares

What are Bonus Shares?

Bonus shares refer to those additional shares which are given by the company to its existing shareholders or investor in the form of a "BONUS" in such a case when the company doesn't want to distribute the dividend in the form of cash even after having enough amount of profit. Only those companies have the right to issue the bonus shares which have earned large profits or have large free reserves that the company can't utilize for any other purpose.

Shareholders are also allowed to sell these shares whenever required. A point should be noted here that there is no tax charged on bonus shares but it can be charged on a shareholder in the form of capital gains tax if he/she sells them at a net gain.

What is a Bonus Issue?

Issuing the bonus shares to the shareholders is known as the bonus issue of shares. The companies issue these shares in case of a shortage of cash or if the companies want to hold the whole profit for future growth while shareholders are expecting a regular income from the company. The companies also issue bonus shares to restructure their reserves. The issue of bonus shares has no effect on the company's liquidation and hence there is no change in the company's net assets but it increases the share capital of the company. However, the shareholders get these bonus shares as per their existing stake in the company. These shares also don't dilute the shareholders' equity because they are issued in a constant ratio that keeps the shareholders' equity the same as it was.

For example, if a company issues one for three bonus shares, then it means an existing shareholder will get three additional bonus shares for every existing share of his/her stake. So, in this sense let us assume a shareholder holds 3,000 shares of a company. Now, when the company will issue a bonus share to that existing shareholder, he/she will receive 1,000 bonus shares, i.e., (3,000*1/3 = 1,000).

Types of Bonus Shares

Bonus shares can be divided into the following two types:

1. Fully-paid Bonus Shares

The bonus shares that are distributed without any additional cost in the proportion of the shareholders holding in the company are known as fully-paid bonus shares.

Fully-paid bonus shares can be issued through the following sources:

• Profit and Loss Account
• Capital Reserves
• Security Premium Account
• Capital Redemption Reserves

2. Partly-paid up Bonus Shares

The partly-paid shares are those shares that are partially paid in comparison to the full issue price. It means these shares can be bought without paying the whole issue price. However, the investor can pay the remaining amount in installments when the company makes the calls.

So in this sense, when the partly-paid shares are converted into fully-paid shares after applying bonus in them and without calling out the uncalled installments through profit capitalization then these shares are called partly-paid up bonus shares. However, these shares cannot be issued from a security account or capital redemption reserve account.

Why do companies issue Bonus Shares?

Bonus shares are issued to the shareholders when the company wants to retain the profit for future growth and development and don't want to distribute it as dividend among the shareholders. Bonus shares help the company in retaining its goodwill in the market because if a company does not distribute dividends among the shareholders even after earning a sufficient profit then the shareholders may lose their belief in the company which can be laid down its prestige in the market. The process of issuing bonus shares to the existing shareholders is also known as capitalization of profits because the company issues them out of its profit or reserves.

Conditions for Issue of Bonus Shares

There are certain prerequisite conditions given below that are required to be fulfilled before issuing bonus shares:

• Bonus shares can be issued only if they are authorized by the company's Articles of Association.
• Also, it is mandatory to ensure that the authorized capital of the company is enough for issuing bonus shares. In case, if this capital is not sufficient then the company has to alter the memorandum of association to increase the authorized capital.
• The issue of bonus share can be done after getting permission from the Controller of Capital Issues of the company.
• The activity must be recommended or agreed upon by the resolution of the BoD of the company. But this is not enough. The shareholders must also approve the following in the general meeting.
• There should not be any default in payment of interest or principal of the fixed deposit or debt security that is issued by the company. Other than this, there should not be a default in payment of statutory dues to the employees of the company. These statutory dues include gratuity, bonus, or contribution to the provident fund.
• Make sure that all the shares are fully-paid and if they are not then the shareholders are required to do so.
• Before issuing bonus shares, it is also required for the company to check the availability of all resources.

Eligibility for Bonus Shares

Only those shareholders are eligible to get bonus shares from the company who own the company's shares before the ex-date and record date. In our country, the delivery of shares is done on the basis of the T + 2 rolling system where the record date is two days after the ex-date. Shareholders are required to buy the shares before the ex-date because if the shareholders will buy the shares on the ex-date then they will not get the ownership of the shares and therefore they can't get the benefit of bonus shares. Once the shareholder gets a new ISIN (International Securities Identification Number), the bonus shares will be credited to his/her account within 15 days.

Procedure for Issue of Bonus Share

There are several steps that the company should follow while issuing the bonus shares. These steps are given below:

1. Call a Board Meeting

The first step that is taken in the process of issuing bonus shares is to call for a board meeting. The notice must be issued at least seven days before the meeting of the Board of Directors, as per Section 173(3) of the Act.

2. Convene a Board Meeting

The second step in this process is to conduct the board meeting and present the agenda in front of the directors. But there are certain points that should be ensured before conducting the meeting:

• There is the required quorum of 1/3 of the Board's total strength in the meeting.
• Place the board resolution in regard to approving the subject of the bonus shares' issue to the endorsement by shareholders in the general meeting of the company by an ordinary resolution.
• The resolution has been passed in the BoD.
• The ratio of Bonus Shares is fixed.
• The date, time, and venue for the general meeting have already been decided and a director has been authorized to send the notices for this purpose.

3. Circulate Draft Minutes

The next step is to circulate the draft minutes to all directors of the board for their comments within the stipulated time. In the case of a public company, it is mandatory to file the board resolution in the form MGT - 14 with the Registrar of Companies within 30 days.

4. Send Notice of General Meeting

The fourth step is to send the notice for the conduction of the general meeting to all directors, shareholders, auditors, and all the members entitled to receive for approving the issue of the Bonus Shares. For this purpose, they all get a minimum of 21 clear days.

5. Convene the General Meeting

In the fifth step, the extraordinary general meeting is convened to authorize the issue of Bonus Shares by passing an Ordinary resolution as per Section 114(1) of the Act. Now the Board also approved the issue of Bonus Shares.

6. Convene a Board Meeting

After it, a Board meeting is again convened by the company to get the approval for the allotment of the Bonus Shares and to follow all the required protocols for this purpose.

7. File Form No. PAS-3

Then the return of allotment is filed in the Form PAS-3 within 30 days of the allotment of Bonus Shares by the company. Along with this, some other documents or attachments are required which include the following:

• Photocopy of the Ordinary Resolution that is passed in the Extraordinary General Meeting.
• Photocopy of the BoD resolution about the approval of the allotment of bonus shares.
• List of allottees including their name, address, occupation (if any), and the number of shares of each shareholder. Then this list is required to be certified by the signatory of the Form PAS-3.
• Any other document that may vary with the requirements of various companies.

8. Issue of Share Certificates

The last step in this process is to inform the depositors (those who will get the Bonus Shares) immediately about the allotment of the shares when they are in the Demat account. The company must issue the share certificates within 2 months from the date of allotment if the shares are allotted in the physical form.

Advantages of Bonus Issue

From the Investor's View Point

• The investors are not required to pay the tax on bonus shares that they get from the company.
• Bonus shares are advantageous for those shareholders who are long-term investors in the company and want to multiply their investment.
• The shareholders get these shares from the company free of cost which increases their outstanding shares in the company and also enhances the stock's liquidity.

From the Company's View Point

• The company gets more free-floating of shares in the market by issuing bonus shares.
• Bonus shares increase the value of the company and promote its position and goodwill in the market, helps in gaining the trust of existing shareholders, and attract many small investors to become part of the share market.
• Bonus shares help the companies in paying the dividend without affecting the liquidity or cash position of the company.

Disadvantages of Bonus Issue

From the Investor's View Point

• There is not such a huge disadvantage of bonus shares for the investors. However, the investors should be aware of the issuing bonus shares because the bonus shares increase the number of shares without affecting the profit of the company which led to the fall in earnings per share.

From the Company's View Point

• When a company issues bonus shares then it does not receive any cash which affects the ability of the company to raise money from the offering of shares.
• When a company regularly issues bonus shares instead of paying dividends in the form of cash then the cost of these shares keeps adding up over the years.