TCS getting bullish

TCS making good profits, today declared a bonus share of 1:1, and a dividend of 4.5 per share. What this means is it will give a bonus share of 1 extra per share holded for free. Per share today closed on Rs. 1903. But then bonus shares does not double the value of your money, in fact per share value gets halved. Confused...read on to know more...

A bonus issue adds to the total number of shares in the market. Say a company had 10 million shares. Now, with a bonus issue of 2:1, there will be 20 million shares issues. So now, there will be 30 million shares. This is referred to as a dilution in equity. Now the earnings of the company will have to be divided by that many more shares.

Earnings Per Share = Net Profit/ Number of Shares

Since the profits remain the same but the number of shares has increased, the EPS will decline. Theoretically, the stock price should also decrease proportionately to the number of new shares. But, in reality, it may not happen. That's because:
i. The stock is now more liquid. Now that there are so many more shares, it is easier to buy and sell.
ii. A bonus issue is a signal that the company is in a position to service its larger equity. What it means is that the management would not have given these shares if it was not confident of being able to increase its profits and distribute dividends on all these shares in the future.

A bonus issue is taken as a sign of good health of the company.
When a bonus issue is announced, the company also announces a record date for the issue. The record date is the date on which the bonus takes effect, and shareholders on that date are entitled to the bonus. After the announcement of the bonus but before the record date, the shares are referred to as cum-bonus. After the record date, when the bonus has been given effect, the shares become ex-bonus.