Difference Between Bonus Issue and Right Issue

Wipro shareholders witnessed a wave of happiness after the management recently announced a 1:1 bonus issue for their shareholders. After the announcement those holding shares of Wipro before the ex-date will get one bonus share for every fully paid-up Wipro share in their portfolio.

Issuing bonus shares and right shares is a common practice for companies doing financially well to incentivize their shareholders. It not only creates a positive impression of the company in the market but also provides an impetus to the investors to have more stake in the company.

Although both the issues are beneficial for the investors, many times people get confused between the two. In both the issues additional shares are issued but the primary difference between bonus share issue and right shares is of their nature. While bonus shares are the extra shares presented to the shareholders free of cost, the right shares are those additional shares that are provided at a discounted price.

Before we delve deeper into the differences between both the issues it is important to understand the concept and the effect of both the issues.

 

What is a Bonus Issue?

Companies generally shell out a percentage of their profits to their shareholders in the form of dividends. However, dividends are not always in the form of cash, sometimes instead of cash companies issue extra shares for free as dividends. These shares are issued to the shareholders against their existing shares of the company.

Companies issue these shares to those shareholders who have shares of the company before the ex-date and record date in a fixed ratio on existing such as 1:1, 2:1 or 3:1. For example, if a company allots bonus shares in the ratio of 2:1 it means that every shareholder of the company who has 1 share of the company before the ex-date will get 2 additional shares for free.

So, if you have 100 shares of the company then in the above case after the bonus issue you will have 300 shares of the same company in your portfolio.

 

Effects of Bonus share issue

When companies issue additional shares to the shareholders at zero cost it increases the quantity of shares in their portfolio, but the total value of the portfolio remains the same. Therefore, the share count of investors increases but the share price in the portfolio declines to the extent of the ratio of the bonus issue. Let's understand this concept better with the help of a table.

 

Know the key differences between bonus shares and stock split, why companies take these actions and its impact on the company's share price and its investors.

 

 

What is a Right Issue?

A Rights Issue is a scenario where a company raises capital by issuing shares to their existing shareholders at a discount than the market price. A company takes this step when they want to raise capital for different purposes without diluting the existing structure of the company. A company facilitates rights issues for multiple purposes such as business expansion, growth, setting up new facilities or other corporate purposes.

Only those who have the shares of the company a day prior to the set record date by the company is eligible for the rights issue. Record date is the date when a company checks which shareholders are eligible for the rights issue. For example, if the record date for a rights issue is 3rd May, then only those who hold the shares of the company by 2nd May will be eligible for a rights issue.

 

 

How does rights issue works?

In rights issue also, shares are issued to shareholders in a fixed ratio on existing shares such as 1:4 which means that one share is allotted for every 4 shares held. Let’s understand it with an example.

If X owns 200 shares of company Y with a current share price of Rs.10 and a current market value of Rs.100. Further, Y issues rights share in the ratio of 1:4 at a discounted price, then in this case X will be issued 50 shares (1/4X200).

Value of X’s portfolio before rights issue = 200 X 10 = Rs.2000

Value of right share issued = 50 X 8 = Rs.400

Value of portfolio after right issue = 2000+400 = Rs.2400

Total shares after right issue = 250

Value per share after rights issue = 2400/250 = Rs.9.6

If the per share value of the portfolio after rights issue, then it is a profitable situation for the investor and vice-versa.

 

 

Key Differences between Bonus Issue and Rights Issue

Now, as you have understood in detail about bonus issue and rights issue, let’s delve into some of their primary differences:

	Bonus Issues	Right Issue
Meaning	Bonus issues are free shares allocated to existing shareholders in a fixed ratio based on existing shares	Rights issue are additional shares given to the shareholders at a discounted price in a fixed ratio on existing shares.
Aim	To incentivize the shareholders without any outflow of cash from reserves and increasing share capital.	To generate additional capital for the business’s growth and expansion without diluting the existing ownership.
Benefit to Shareholders	In the bonus issue shareholders get shares at zero cost which multiplies their return as the company grows.	In rights issue shareholders benefit as they avail shares at a price less than the current market price.
Effects on Share Price	The bonus issue results in a decrease in the share price as more shares are added to the portfolio and the final value remains the same.	On the other hand, in a rights issue the share price may or may not decline as new shares are given only at a discount.
Eligibility	All the shareholders of the company are eligible for bonus shares	In rights issue, all shareholders have the right, but it’s upon their discretion if they want to buy them at a discounted price or not.

 

 

Conclusion

Bonus and Rights Issues are two ways that companies can use to interact with their shareholders, but the two issues differ in terms of purpose. Bonus Issues reward the existing investors with free additional shares that cause share price dilution without raising fresh capital for the company. Rights Issues give the shareholders an opportunity to

purchase new shares at a discount, thereby allowing the company to raise capital directly from its existing shareholder base.