ACS Gautam Singh
One thing which every shareholder across various companies would dream for is receipt of bonus shares. The word ‘bonus’ has a very positive connotation, implying something extra or some gains at no cost. Issue of bonus shares is the most popular way by which companies like to utilize their large accumulated reserves. Over the years of operation, most growing companies build significant accumulated profits and reserves by ploughing back profits. Sometimes, this accumulated surplus is well above company’s current and likely future operational needs. In such cases, the company finds it appropriate and desirable to reward the shareholders by utilizing retained earnings. Bonus shares are issued to the existing shareholders free of cost in proportion to their shareholding by capitalizing the amount of reserves and surplus.
Bonus issue refers to a further issue of shares made by a company having share capital to its existing shareholders in proportion to their holdings without any consideration. For example, company X issues bonus shares in the ratio of 2:1. This means that for each share that an individual holds, the company shall provide two shares for free. If you have 100 shares on the date of record, you will get 200 shares for free; so, your total holding will now be 300. Bonus shares are not really bonuses; they are a conversion of the company’s undistributed profits into capital through issue of additional shares.
Theoretically, when the EPS reduces, the price of the share also decreases proportionately. But practically, the situation is different. With more shares in the market, the stock becomes liquid. This liquidity will lead to price discovery and identifying true and fair value of the share. Bonus issue is perceived as a good signal because the company is capable of serving a larger equity base and at the same time the net worth of the company remains intact. Shares normally trade in green after issue of bonus shares.
There was no specific section under the Companies Act, 1956 (‘the 1956 Act’) governing the issue of bonus shares. However, section 63 of the Companies Act, 2013 (‘the Act’) read with rule 14 of the Companies (Share Capital and Debentures) Rules, 2014 have laid the turf to regulate such issuance. The provisions are applicable to all classes of companies, listed or unlisted companies. Besides, Chapter IX of the SEBI (Issue of Capital and Disclosure Requirements) Regulations, 2009 (‘ICDR Regulations’) comprise of regulations 92 to 95 also regulate issuance of bonus shares in listed companies.
In terms of sub-section (1) of section 63, a company may issue fully paid up bonus shares to its members out of following:
CONDITIONS FOR ISSUE OF BONUS SHARES:
A company shall not capitalise its profits or reserves for the purpose of raising bonus shares unless the following conditions are satisfied:
The sum capitalised shall not be paid in cash but shall be applied either in or towards –
1. paying up any amounts for the time being unpaid on any shares held by such members, respectively (making partly paid up shares as fully paid up) ;
2. paying up in full, unissued shares of the company to be allotted and distributed, credited as fully paid-up, to and amongst such members in the proportions aforesaid ; and
3. partly in the way specified in sub-clause (i) and partly in that specified in clause (ii).
Where bonus shares are issued, they become capital assets of the shareholder. There is no tax payable on receiving bonus share from the company. However, capital gains tax is attracted if bonus shares are sold by shareholder. The cost of acquisition of bonus shares will be taken as ‘nil’ for calculation of capital gains. For example, if the shares were acquired after 1st April, 1981 in accordance with section 55 of the Income-tax Act, 1961, the crucial date for the purpose of reckoning the period of holding is the date on which bonus shares were issued and not the date of purchase of original shares which gave rise to bonus shares as provided in Explanations I(f) to section 2(42A) of the Income-tax Act.
ISSUE OF BONUS SHARES BY LISTED COMPANIES:
Chapter IX of the ICDR Regulations comprise of regulations 92 to 95. It deals with bonus issue of listed companies.
Conditions for bonus issue [regulation 92]:
A listed issuer may issue bonus shares to its members if –
Restriction on bonus issue [regulation 93]:
An issuer shall not make a bonus issue of equity shares if it has outstanding fully or partly convertible debt instruments at the time of making the bonus issue, unless it has made reservation of equity shares of the same class in favour of the holders of such outstanding convertible debt instruments in proportion to the convertible part thereof. The equity shares reserved for the holders of fully or partly convertible debt instruments shall be issued at the time of conversion of such convertible debt instruments on the same terms or same proportion on which the bonus shares were issued.
Bonus shares only against reserves, etc., if capitalised in cash [regulation 94]:
The bonus issue shall be made out of free reserves built out of the genuine profits or securities premium collected in cash only and reserves created by revaluation of fixed assets shall not be capitalised for the purpose of issuing bonus shares. The bonus share shall not be issued in lieu of dividend.
Completion of bonus issue [regulation 95]:
An issuer, announcing a bonus issue after the approval of its Board of directors and not requiring shareholders’ approval for capitalisation of profits or reserves for making the bonus issue, shall implement the bonus issue within fifteen days from the date of approval of the issue by its Board of directors. Where the issuer is required to seek shareholders’ approval for capitalisation of profits or reserves for making the bonus issue, the bonus issue shall be implemented within two months from the date of the meeting of its Board of directors wherein the decision to announce the bonus issue was taken subject to shareholders’ approval. The Act does not prescribe any time limits for issue of bonus shares.
ISSUE OF BONUS SHARES TO NON RESIDENT ENTITY:
The Foreign Exchange Management Act allows Indian companies to freely issue bonus shares to existing non-resident shareholders, subject to adherence to sectoral cap, if any. However, such issue of bonus shares has to be in accordance with other laws/statutes like the Companies Act, as applicable, ICDR Regulations (in case of listed companies), etc. OCBs have been de-recognised as a class of investors from 16th September, 2003. However, bonus shares can be issued to erstwhile OCBs without the approval of the RBI.
REPORTING OF ISSUE OF SHARES:
After issue of bonus shares, the Indian company has to file Form FC-GPR, not later than 30 days from the date of issue of shares. Issue of bonus shares or stock options to persons resident outside India, has to be reported in Form FC-GPR.
On 2nd September, 2015, SEBI notified and brought the SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015 (‘Listing Regulations’) into effect. SEBI’s provisions for listed entities have now been aligned with the provisions of the Act. The Listing Regulations, finalised after consultations, will consolidate and streamline the provisions of existing listing agreements for different segments of the capital market. The Listing Regulations shall come into force on the ninetieth day from date of publication in the official gazette, i.e., 1st December, 2015 :
While there is nothing wrong with the practice of issuing bonuses, investors’ ignorance about its actual implication leads to speculative trades. This may lift the stock price in the short term. However, there is no addition to the stock’s intrinsic value which is based solely on fundamentals. In fact, in some cases, the unscrupulous management may exploit this ignorance make such announcement to artificially inflate the stock prices. Unfortunately, for such naive investors who buy into a business hoping to gain from such corporate activities, the price is paid in the form of a loss when the hype dies down and the market once again wakes up to the long term fundamentals of the firm under consideration. As such, investors would do well not to fall for such gimmicks and base their investing decisions on fundamentals and growth prospects of a company.