Is Reliance Industries' bonus share issue truly a Diwali gift?

Rarely do we associate the word "bonus" with anything negative. It's a word that usually brings to mind something extra, something positive. So when Reliance Industries referred to its upcoming bonus share issue as an early Diwali gift, the comparison seemed reasonable to many. For those unfamiliar, the conglomerate recently announced that it would issue bonus shares in the ratio of 1:1 as a festive gesture, meaning shareholders will receive one additional share for each share held as of the record date (yet to be announced).

However, for more seasoned investors, calling a bonus issue a "gift" might seem more like a clever marketing tactic designed to capture attention, rather than an accurate comparison. Here's why.

Why bonus issues aren't "free" shares

While it's true that bonus issues increase the number of shares you hold, they don't actually increase the total value of your investment. This is because while the number of shares rises, the value of each share decreases in the same proportion.

Consider this: Imagine you hold 100 shares in Company A, each priced at Rs 10. This brings the total value of your holding to Rs 1,000 (Rs 10 * 100). Now, suppose Company A announces a 1:1 bonus issue, which means you'll receive an additional share for each share you hold, bringing your total share count to 200. However, the price per share will drop to Rs 5. So, even though the number of shares doubled, the total value of your investment remains Rs 1,000 (Rs 5 * 200).

In other words, a bonus issue is like cutting a pizza into more slices—it doesn't change the size of the pizza, just the number of pieces.

Why companies issue bonus shares

Most companies issue bonus shares primarily to boost liquidity and make their stock more affordable to a broader range of investors. By lowering the price per share, the stock may become more accessible to small or retail investors. Reliance Industries has a long history of issuing bonus shares, with the upcoming one being its sixth.

Investors' corner

To be clear, bonus issues aren't inherently bad or a red flag. However, framing them as "free shares" or a "gift" can be misleading, setting up unrealistic expectations that might lead to poor investment decisions.

For example, in December 2023, several influencers promoted Salasar Techno's 4:1 bonus share issue as the company giving away "free shares." As expected, this caused a surge in buying interest, and the stock price more than doubled. However, this spike wasn't based on any fundamental improvement in the business, and as a result, the stock price plummeted after the issue.

This serves as a reminder: while the idea of receiving something "extra" may be appealing, it's important to remain cautious. Decisions should be grounded in the company's underlying business performance, not flashy announcements about bonus shares.

Also read: Of bonus issues and stock splits