What are bonus shares and why do companies issue them? Here's the full math

If you follow or read stock market news, you've likely heard the term bonus shares. It often sounds like a company is giving its investors something for free. 

But the question is: are bonus shares really a free gift, or is there a specific strategy behind them? Let's understand this in simple terms.

What are bonus shares after all?

Bonus shares are additional shares that a company gives to its existing shareholders without any payment. This means that if you already own shares in that company, the company gives you a few more shares in exchange. 

For example, if you own 100 shares and the company announces a 1:1 bonus, you will receive 100 more shares. Now you will have a total of 200 shares, without spending a single penny.

Is it really beneficial for investors?

Receiving bonus shares may initially appear to increase your wealth. While the number of shares increases, it's important to note that your total investment value doesn't increase at the same time. 

This is because the share price automatically decreases after the bonus is issued. This means that you have more shares, but the price per share decreases. Overall, the value of your holdings remains roughly the same.

Why do companies issue bonus shares?

When a company has strong earnings and accumulated strong reserves, it decides to issue bonus shares. Sometimes, instead of paying a cash dividend, the company prefers to reward investors in the form of shares. 

This protects the company's cash reserves and provides satisfaction to shareholders. Bonus shares also demonstrate the company's confidence in its future.

What is the math behind bonus shares?

A key reason for issuing bonus shares is to balance share prices. When a company's shares become too expensive, it becomes difficult for small investors to purchase them. 

After the bonus, the share price decreases, allowing more people to invest. This increases the trading volume and improves liquidity in the market.

How do investors benefit in the long run?

Although bonus shares may not generate immediate profits, they can prove beneficial for investors in the long run. If the company's business does well in the future, the increased number of shares can generate higher returns for investors. 

This is why long-term investors consider bonus shares a positive sign. It's not wise to get excited simply by seeing bonus shares. Before investing, it's important to understand the company's financial position, profits, future plans, and business model. Bonuses can be a positive sign, but investment decisions should not be based on this alone.