Understanding Bonus Shares: A Comprehensive Guide

Bonus shares are a corporate action where a company issues additional shares to its existing shareholders for free, based on the number of shares they already own. This guide will explain what bonus shares are, why companies issue them, how they impact shareholders, and the key dates involved. We’ll also provide examples of bonus issues on the Nairobi Securities Exchange (NSE) to illustrate the process.

What Are Bonus Shares?

Bonus shares are additional shares given to existing shareholders at no cost, based on their current shareholding. The issuance of bonus shares is a way for companies to distribute accumulated profits or reserves to shareholders without paying cash dividends. Instead of receiving a cash dividend, shareholders receive more shares.

Key Features of Bonus Shares:

Free of Charge: Bonus shares are issued for free. Shareholders do not need to pay for them, unlike new shares purchased in a rights issue or public offering.
Proportional Allocation: Bonus shares are allocated based on the number of shares a shareholder already owns. For example, in a 1-for-3 bonus issue, shareholders receive one additional share for every three shares they own.
Increase in Outstanding Shares: The total number of outstanding shares increases after a bonus issue, which can affect the stock's trading price but not the overall value of shareholders' investments.

Why Do Companies Issue Bonus Shares?

Companies issue bonus shares for several reasons, often related to improving shareholder value or company image.

Common Reasons for Issuing Bonus Shares:

Rewarding Shareholders: Companies issue bonus shares as a way to reward existing shareholders, especially when the company has strong earnings and wants to distribute profits without paying cash.
Enhancing Liquidity: Increasing the number of shares in circulation can improve liquidity in the market, making it easier for investors to buy and sell shares.
Adjusting Share Price: Bonus shares can lower the stock price, making it more affordable for small investors and potentially attracting more investors.
Signal of Company Health: Issuing bonus shares can signal to the market that the company is financially healthy and confident about its future performance.
Avoiding Cash Outflow: By issuing bonus shares, a company can reward shareholders without using cash reserves, which can be important for companies that prefer to reinvest profits into the business.

How Do Bonus Shares Impact Shareholders?

For shareholders, the issuance of bonus shares changes the number of shares they hold and the stock's price per share but does not immediately alter the total value of their investment.

Impact on Shareholders:

Increased Number of Shares: Shareholders receive additional shares, increasing their total number of shares in the company. For example, in a 2-for-5 bonus issue, if you owned 100 shares, you would receive 40 additional shares (100 x 2/5), totaling 140 shares.
Adjusted Share Price: The share price is adjusted downward to reflect the increased number of shares. For instance, if a stock was trading at Ksh 500 before a 2-for-5 bonus issue, it would trade at Ksh 200 after the issue.
No Immediate Change in Investment Value: Although the number of shares increases and the share price decreases, the total value of your investment remains the same immediately after the bonus issue. If you owned shares worth Ksh 50,000 before the bonus issue, their value would be the same immediately after the issue.
Dividends: Future dividends might be adjusted based on the increased number of shares. However, the total dividend payout received by shareholders usually remains proportionate to their original investment.

The Process of Issuing Bonus Shares

The process of issuing bonus shares involves several steps and key dates that shareholders should be aware of.

Steps Involved in a Bonus Share Issue:

Announcement Date: The company announces the bonus issue, including the ratio of bonus shares to existing shares, the record date, and any other relevant details.
Example: On March 1, Company B announces a 1-for-4 bonus issue, meaning shareholders will receive one new share for every four shares they already own. The record date is set for March 15.
Record Date or Book Closure Date: The record date is when the company reviews its shareholder register to determine who is eligible to receive bonus shares.
Example: If the record date is March 15, only shareholders who own shares by the close of business on this date will be eligible for the bonus shares.
Ex-Bonus Date: The ex-bonus date is the first trading day when the stock trades without the right to receive the bonus shares. If you buy shares on or after this date, you will not be entitled to the bonus issue.
Example: If the ex-bonus date is March 16, you must own shares before this date to receive the bonus shares.
Distribution Date: The distribution date is when the bonus shares are credited to the shareholders’ accounts. This date follows the record date and is when shareholders will see the additional shares in their CDS accounts.
Example: On April 1, Company B distributes the bonus shares to eligible shareholders. The new shares are credited to their CDS accounts on this date.

Examples of Bonus Share Issues on the NSE

Bonus shares are a common event on the Nairobi Securities Exchange (NSE), often undertaken by companies to reward their shareholders and improve market liquidity.

Example:

KCB Group: In 2013, KCB Group announced a 1-for-1 bonus issue, meaning that shareholders received one additional share for every share they already owned. The bonus issue was part of the company's strategy to reward shareholders and make the stock more affordable to a broader range of investors.
Safaricom: Safaricom issued bonus shares in 2011 as part of its strategy to reward shareholders and adjust its share price. The bonus shares were distributed at a ratio of 1-for-2, providing additional shares to existing shareholders and enhancing liquidity in the stock.

Key Considerations for Investors

While bonus shares are generally seen as positive for shareholders, there are several factors to consider.

Investor Considerations:

No Immediate Value Change: Understand that the total value of your investment does not change immediately after the bonus issue; only the number of shares and the share price are adjusted.
Long-Term Impact: Over time, the issuance of bonus shares can lead to increased liquidity and potentially attract more investors, which could have a positive impact on the stock’s performance.
Dividend Adjustments: Future dividends may be adjusted based on the increased number of shares, but the total dividend payout typically remains proportional to the original investment.
Market Perception: Bonus issues are often viewed positively, as they can indicate a company's strong performance and commitment to rewarding shareholders.

Conclusion

Bonus shares are a valuable tool for companies to reward their shareholders, enhance liquidity, and signal financial health. While they do not change the overall value of your investment immediately, they can have positive long-term effects, including increased market interest and improved liquidity. Understanding the mechanics of bonus shares, including the allocation ratio, impact on share price, and key dates, is crucial for making informed investment decisions. Whether you’re a seasoned investor or new to the market, keeping an eye on bonus share issues can help you manage your investment portfolio effectively and capitalize on potential opportunities.