For my students.
Many are unable to tell the difference between bonus issue and rights issue of shares. I wish to present my interpretation on bonus issue to shed some light on this front.
Is this a possible exam questions? Of course, my friends.
Essentially we are issuing new shares by capitalising the reserves ie.
DR Reserve account
CR Share capital account
Any cash flow from the issue?
No money exchanged.
The company will send notices to shareholders to inform on the number of shares allocated based on the approved ratio.
Example – You were holding 1,000 shares prior to bonus issue. The company has been approved to issue bonus shares on the basis of 1:4. You would be issued 250 bonus shares for a total holding of 1,250 shares.
Are you any richer given the higher number of shares you now have?
Theoretically no. Has the company make any monies from the exercise? The answer is no. It is merely a paper exercise. Every existing shareholder maintains status quo in terms of their percentage ownership of the company.
Then why would a company do a bonus issue?
The company has essentially issued more shares to increase liquidity of the counter by reducing the absolute dollar value of each share. For example, DBS Bank may issue enough bonus shares to reduce its current share price from an “expensive and prohibitive level” of $20 to a more affordable level of $8. Then more people can “afford” to buy the shares and participate in success of DBS Bank.
Trust this helps. 🙂