A stock split is sometimes confused with bonus shares, however it is different from bonus shares. So, what is the difference between these two and which one is better for the investors?
To start with some basics – all publicly-traded companies have a set number of shares that are outstanding on the stock market. These shares are nothing but sub division of capital. So if a company’s capital is 100 m divided into 10m shares of 10 each, then this 10 is called the face value of the share.
A stock split is usually done by companies if their share price increase to levels that are either too high or are beyond the price levels of similar companies in their sector. The move is generally seen to improve the liquidity of scrip since more investors participate due to the smaller ticket size.
A stock split is done to increase the number of shares that are outstanding by issuing more shares to current shareholders. For example, in a 2-for-1 stock split:
- Two shares for one share.
- Face value reduces by the split ratio, i.e., if earlier the face value was 10, after the split it will reduce to 5 per share.
- The market price is affected by a stock split and it will reduce by similar ratio, e.g., 200 per share becomes 100.
- The market cap does not change, since the outstanding shares are same.
Important point to note here is there is no financial impact on the stock, due to stock split. Recent stock split done by companies include Titan Industries, VIP Industries and Crisil.
Bonus shares, are given free of cost to the investors. So when you get a bonus share, the number of shares you own increases at no cost to you. A stock split is also like a bonus, but that is where the similarity ends. A bonus is a free additional share whereas a stock split is the same share split into different number of shares.For example, if a company was to issue a 1:1 bonus share:
- It would increase the amount of shares by 100% (1 share for every 1 share owned).If there are 1 million shares in a company, this would translate into an additional 1 million shares.
- Face value does not change.
- The market price changes and the price would reduce by half.
- The market cap increases, since the outstanding shares increase.
The bottom line is that a stock split is used primarily by companies to provide greater marketability and liquidity in the market. Whereas bonus shares are issued with the intent of rewarding the investor and the financial effect of bonus share is that it increases the number of shares outstanding and reduces the earnings per share accordingly. Companies like Karur Vysya Bank, Infosys Technologies have rewarded investors with consistent bonus issues and have performed well on the enhanced equity too.