The mystery of bonus issues
March 19th, 2008 Ogbuotobo Chuks || chuks@stockmarketnigeria.com
By Ogbuotobo Chuks
In this present time of ever increasing investment interests, i usually tell people that care to listen, “everything happens for a purpose, and at a cost”. It’s only wise to find out what the purpose of any action is and the implication also.
In stock investment, investors most atimes are blinded by the greed for returns that they do not observe what is happening around them. Even when they do observe, they do not pre-play the post effects of such happenings. One of such is the issuance of bonus/scrip issues to shareholders.
Now, let me ask. Do you know that apart from just rewarding investors or delighting them, bonus issues are used as a tool to deliberately bring down the prices of shares?Do you know they are used as tools by companies to increase capitalisation?
Yes, i said so. One of the reasons being, so that potential investors can pump in funds and benefit at a reasonable price. First Bank of Nigeria plc leveraged on this strategy in it’s 2005/2006 financial year when it issued a bonus of 1 for 1. When a 1 for 1 bonus is given, the share price of that share automatically reduces by half (i.e it’s divided by 2). At the point of declaring this bonus, the share price of the bank reduced from about N70.00 to about N35.00.
The Implication
When a bonus is issued, it implies that there is a dilution in the outstanding shares of that particular company. That is to say, there is an increase in the number of outstanding shares. This implies that for a company to meet up based on dividend payment as a result of the increase in the outstanding shares, it has to increase its profits considerably.
Taking a cue from First Bank, the company 2005/2006 paid a dividend of N1.00 per share. This means that for the bank to keep up with this, they need to double their profits in the following year, since the outstanding shares have doubled in quantity.
When this expectation cannot be met, dividend payment could likely drop, investor confidence diminishes, share price also drops and market capitalisation plunges southward.
On the other hand, assuming that the company is able to at least double profits, this is of huge benefits to the investor. Firstly, investor confidence is sustained and boosted, the share price probably exceeds the previous years high when it was marked down and dividend payment is also sustained and improved upon. You therefore have double value for your money, assuming you did not divest your holdings in the company.
Conclusion
As a wise investor, follow up on the quaterly reports of companies that give bonus issues. Be on the look out for significant increases in quarterly profits and EPS. This would inform you as to whether they will be able to sustain return on investment for you and the company as a whole.
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