Bonus issues and Sock splits and Buybacks

A comparison between a bonus issue and a stock split is given below:

Bonus Issue: The par value of the stock remains constant. A part of reserves is capitalized. The Shareholders proportional ownership remains unchanged. The book value per share, the earnings per share, and the market price per share decline. The market price per share is brought within a more popular trading range.

Stock Split: The par value of the stock is reduced. There is no capitalism of reserves. The shareholders’ proportional ownership remains unchanged. The book value per share, the earnings per share, and market price per share decline. The market price per share is brought within a more popular trading range.

Share Buybacks: A share buyback means that a company repurchases its own shares from the market. A common practice in countries like USA and United Kingdom, buyback of shares has now been permitted in India and several companies have initiated share buyback programs.

Motives for share Buyback: Why do companies resort to share buyback? Some of the common explanations for share buyback are:

* The management believes that the stock of the company is undervalued.
* The company has excess cash but lacks profitable investment opportunities
* It represents a defensive strategy against a potential takeover.
* The management wants to signal to investors its confidence in the future earnings of the firm.
* It may be used to increase the leverage of the firm.

Regulation of Buyback: The key provisions of the Companies Act with respect to buyback are as follows:

* The buyback program should be authorized by a special resolution passed in the general meeting of the company. Further, it should be completed within a period of 12 months from the date of approval by the shareholders.
* The post buyback debt-equity ratio of the company should not exceed 2:1.
* The buyback should not exceed 25% of the total paid up capital and free reserves of the company.
* After completing a buyback program, a company should not make a further issue of equity securities within a period of 24 months except by the way of a bonus issue or in discharge of a subsisting obligation like conversion of warrants, debentures or preference shares into equity shares, stock option scheme ,and sweat equity scheme.
* The buyback may be funded by the following means: (1) free reserves and share premium. (2) cash generated from the disposal of capital assets, (3) a public equity issue made exclusively for the purpose of buyback and (4) a debentures issue.

Procedural guidelines for buybacks have been issued by the Securities Exchange Board of India (SEBI). The important guidelines are:

* The buyback can be done though an open offer route, Dutch auction route, reverse book building, reverse rights, or through stock market purchases. Promoters, how ever are barred from offering their shares if stock market purchases are made.
* The buyback cannot be done through negotiated deals (where a block of shares is picked up from a single/few investors, spot deals and private placement).
* The buyback process has to be handled by a merchant /banker duly appointed by the company. The merchant banker/s will be held responsible for due diligence, pro-rata acceptance of shares and so on.

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  • Rahul K Kavishwar

    Dear sir,

    can buyback of preference share is possible? if yes any suitable example such preferecen share buyback

    with regards
    rahul k kavishwar

  • Very well explained article on the basic differences between bonus issue and stock split. Common Investors tend to get confused between the two and fail to understand its impact on the company’s performance and the market price. This article clearly explains the above.Thanks for sharing. All the best.