What is Ex-bonus? What is Stock Split? What is the difference between Bonus and Stock Split? Why the share price fall by 50% or so when a company goes ex-bonus?
Right Stock at Right Price for Right Time
Have you ever invested in a stock on someone's advice to make profit and then has to wait for months, maybe years, to recover capital? Not anymore.
Reliance Industries issues 1:1 bonus on 26th November 2009 and then on 7th September 2017. In 2009 the stock was trading close to 2200 on 25th November and the next day opened close to 1100. Some charting software that hasn’t adjusted for ex-bonus or news channels report stock as down by 50% but in reality, it is not the case.
So let’s understand the bonus along with stock split and automatically you will have answers to:
- What is the difference between Bonus and Stock Split?
- Why Reliance Industries Fell by 50%?
- Should the bonus shares just mean I would get extra shares without prices changing from 2200 to 1100 odd?
And so on.
First understand what is Bonus Shares and Stock Split?
- Bonus shares is a very misleading term and there is no bonus when it comes to shareholder’s value since the increase in stock quantity is arithmetically neutralized by the proportionate fall in stock price but it is true that bonus issues are generally bullish for the share price in the long term.
There is no concept of bonus in many developed markets and they term the bonus as a stock split.
- Stock split is a reduction in face value of each share. Shares in IPO are issued in standard denominations of Rs. 10 but prices of such shares go up by a margin which can be beyond the scope of retail buyers. So companies split the shares by decreasing the face value of each share with a split. So face value of each share of Rs. 10 when split for 1:1 will become a face value of Rs. 5 each.
In India, we have a face value of Rs. 10 and then as the stock splits up, there are a variation but other developed markets all share have a face value of unity (Re. 1). As everything has the same face value of 1, there is no concept of split and everything is a bonus which is termed as split there. What we term as 1:1 bonus in India is termed as 2 for 1 split in the US.
Bonus and Split Example
Say you are the owner of a company whose share price is 1000 and face value is 10. Your investor would need to pay a premium of 990 Rs (1000 Rs for a share of 10 face value) which can be a mental block for small investors. So you decide to split i.e. you split the stock of face value 10 to face value of 1 and the price of your stock is now at Rs. 100 and premium on each share is Rs. 99. This is split. Arithmetically there is no change but how your investors views it. You are decreasing the face value or denomination of your shares from Rs. 10 each to Rs. 1 each.
Say again after the split your price went up to 1000. (Yeah I know it’s too bullish 😀 ). Now what? You cannot split the stock anymore. So now instead of doing a split, you issue a bonus. New shares are given to your investors but that does not mean your company grew in value overnight because of bonus. Before the split, you had 100 floating shares in the market and now you decide to make it 1000 shares. So the price of each of your shares will fall from Rs. 1000 to Rs. 100 and now you will have 10 times number of shares available at a reduced price for the investors.
Remember, stock split or bonus will not help you double your portfolio overnight. It means if any company gives bonus shares it doesn’t mean you will have added bonus shares to your portfolio and share will remain at the same price before the bonus or split.
If you still have any questions post them in comments and I would be more than happy to clarify them.