Bonus Issue Announcement

The term bonus means an extra dividend paid to shareholders in a joint stock company from surplus profits. When a company has accumulated a large fund out of profits - much beyond its needs, the directors may decide to distribute a part of it amongst the shareholders in the form of a bonus. Bonus can be paid either in cash or in the form of shares. A cash bonus is paid by the company when it has large accumulated profits as well as cash to pay dividends. Many a time, a company is not in a position to pay bonuses in cash in spite of sufficient profits because of an unsatisfactory cash position or because of its adverse effects on the working capital of the company. In such a position, the company pays a bonus to its shareholders in the form of shares; a free share thus issued is known as a bonus share.

A bonus share is a free share of stock given to current/existing shareholders in a company, based upon the number of shares that the shareholder already owns at the time of announcement of the bonus. While the issue of bonus shares increases the total number of shares issued and owned, it does not increase the value of the company. Although the total number of issued shares increases, the ratio of the number of shares held by each shareholder remains constant. An issue of bonus shares is referred to as a bonus issue. Depending upon the constitutional documents of the company, only certain classes of shares may be entitled to bonus issues, or may be entitled to bonus issues in preference to other classes. Bonus share is free to share in a fixed ratio to the shareholders.

Reliance ltd. issue bonus shares in a 1:1 ratio and Rs. 13. 00 as dividend/share Sometimes a company will change the number of shares in issue by capitalizing its reserve. In other words, it can convert the right of the shareholders because each individual will hold the same proportion of the outstanding shares as before.

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The main reason for issuance is the price of the existing share has become unwieldy.

Benefits of bonus issue

• Conservation of Cash. The issue of shares allows the company to declare a dividend without using up the cash that may be used to finance the profitable investment opportunities within the company and thus the company can maintain its liquidity position.
• Under Financial Difficulty and Contractual Restrictions. When a company faces stringent cash difficulty and is not in a position to distribute dividends in cash, or where certain restrictions to pay dividends in cash are put under the loan agreement, the only way to satisfy the shareholders or to maintain the confidence of the shareholders is the issue of bonus shares.
• Remedy for Under-Capitalization.In the state of under-capitalization, the rate of division is very much high.

In order to lower the rate of dividends, the company issued bonus shares instead of paying dividends in cash.

Widening the Share Market.

If the market value of a company's share is very high, it may not appeal to small investors. By issuing bonus shares, the rate of dividend is lowered, and consequently share price in the market is also brought down to a desired range of activity and thus trading activity would increase in the share market. Now small investors may get an opportunity to invest their funds in low-priced shares. Economical Issue of Securities. The cost of issue of bonus shares is the minimum because no underwriting commission, brokerage, etc.

Existing shareholders are allotted bonus shares in proportion to their present holdings. Stock prices as a rule adjust to new information. In an efficient market, this adjustment is instantaneous and accurate. Event studies to test market. Efficiency, therefore, examines the speed of adjustment of stock prices to the release of new, relevant information to investors. One such 'event' is the announcement of bonus issues by companies.

While accountants view bonus issues as pure book-keeping entries which leave total equities and total assets unchanged and hence have no real economic significance, for investors, however, bonus issues lead to an upward revision in their expectations regarding future earnings and dividends. Generally, therefore, an upward drift in stock prices is associated with such announcements. If markets are efficient, and no learning lags exist, the adjustment in stock prices would be prompt.

The relationship between bonus issues and share prices has been the subject of much empirical discussion within the finance literature. Empirical research has shown that the market generally reacts positively to the announcement of a bonus issue. The hypothesis that has received the strongest support in explaining the positive market reaction to bonus issue announcements is the signaling hypothesis, which suggests that ‘the announcement of a bonus issue conveys new information to the market in instances where managers have asymmetric information’.This hypothesis has received almost unequivocal support with few exceptions.

Having a global look it is found that stock dividend announcements in Greece are almost fully anticipated by the market and do not contain any new information; thus, they have little signaling benefit. However, a Canadian study by Masse et al. revealed investigated the impact of stock dividend announcements on the value of firms listed on the Toronto Stock Exchange and found significant and positive abnormal returns around the announcement date.

Ganga and Gunuratne with respect to CSE suggested that the market responds significantly to bonus issues with a large price appreciation on the announcement day itself. Positive sentiments start well prior to the event and continue up to about a further 6 market days creating both statistically and financially significant arbitrage opportunities According to research conducted by Balachandran Balasingham camp; Tanner Sally examined the price reaction to bonus issues announcements in the Australian Companies. They concluded that Bonus issue announcements led to statistically significant positive price reactions around announcement dates for uncontaminated and contaminated events. Whereas Miller and Modigliani demonstrated theoretically that the bonus issues, along with other types of dividends, do not alter shareholder’s wealth.

Sloa provided Australian evidence that bonus issues do not affect shareholders’ wealth. Ball, Brown, and Finn investigated stock price reactions around the announcements of ‘stock capitalization changes’ in Australia for the period between 1960 and 1969 using monthly data. They found 20. 2% abnormal returns for 13 months up to the end including the month of bonus issue announcements. Adaoglu,C. and Lasfer,M. A.

Examined market valuation of bonus issues which is mainly financed by the revaluations of assets and equity reserves in an inflationary economic setting. They found a positive excess return on the announcement day for these bonus issues similar to the market reaction to stock dividends Studies have been carried out in recent years to test the announcement effect of bonus issues in the Indian stock market. Ramachandran examined mixed evidence for the semi-strong form efficiency of the Indian stock market.

Obaidullah and Rao found a positive stock market reaction to equity bonus announcements. Foster and Vickrey, Grinblatt, McNichols and Dravid, and Lijleblom, reviewed in their study that the market reacts positively to the announcement of bonus issues. In an investigation done by Dhar Satyajit and Chhaochharia Sweta on Indian Stock Market, they found that Bonus issues are considered to be cosmetic events. Interestingly, they found that bonus issues result in a sharp spike on the announcement date.

Asim Mishra found a positive cumulative abnormal return around the bonus issue announcement Fama et al. carried out their study on the relation of announcement effect to stock split and stock dividend and concluded that two types of events are associated with the positive stock market effect. Since then other studies have been done in the same area. According to Lakonishoke, a stock split and a stock dividend change the stock price to a more optimal trading range thus increasing the demand for the stock, leading to a positive stock price effect. Forjan and McCorry argued for the increase in market liquidity. The number of shareholders also increases after a stock split. Other studies have also supported optimal trading range.

Market makers are more active in promoting the stock leading to a positive stock market effect (Angel, 1977; and Shultz, 2000). Ross (1977); Leyland and Pyle (1977) examined that mangers make use of the financial decisions regarding stock splits and stock dividends to convey private information about the current value of the firm. Brennan and Copeland's (1988), and Brennan and Hughes's (1991) study say that the declarations of bonus issues convey favorable private information about future earnings to the investors. Rao and Geetha (1996) investigated that one could not make excess money in the stock market by studying the patterns of abnormal returns of announcements made earlier.

Srinivasan (2002) found extremely large positive abnormal returns on ex-bonus and ex-rights dates for equity stocks. Mishra (2005) found significant positive abnormal returns for a five-day period prior to the bonus announcement. A similar study by Budhraja et al (2004) suggests that abnormal returns in stock prices around the bonus announcement date over a three-day trading period starting one day before the announcement date is significant at a 95% confidence limit.

It also says that much of the information in the bonus announcement gets impounded into stocks by the time of announcement. Dhar S., Chhaochharia, S., Market Reaction Around the Stock Splits and Bonus Issues: Some Indian Evidence, examined that bonus issues result in a sharp spike on the announcement date. Stock splits announcements are resulting in positive returns during the entire event window although the effect on the announcement date is not that sharp. It may be due to the fact that stock splits are more common for momentum stocks whereas bonus issues are made for all types of stocks. Barnes and Ma (2002) observe the stock price behavior in response to the bonus issues and they observe positive abnormal returns.

Objectives of the study

• To find out the effect of bonus issues in the Indian Stock Exchange.
• To find out the effect on Indian Stock Exchange, before and after the bonus issue announcement.
• To find out the effect on excess returns, abnormal returns, trading volume, and abnormal volume.
• To open new vistas for further research.

Research Methodology

The study was descriptive in nature. The population of the study was the Companies listed on the National Stock Exchange. The sampling frame of the study consisted of all the companies involved in the formation of the Indian Stock Exchange from the financial years 2004-2010.

The sample size was all the companies listed on the Indian Stock Exchange. Individual Company, which issued bonus issues on Indian Stock Exchange, during the study period, acted as the sampling element. Non-probability judgmental sampling technique was used. Secondary data of all the stocks added to the Indian Stock Exchange from 2004-2010 were collected from the official websites of nse India and individual companies were used for data collection.

Tools for data analysis

1. Price effects: Researcher has evaluated the price effects of National Stock Exchange changes by examining the abnormal returns around the announcement day. Two different measures of abnormal returns are used: First, we calculate the excess return as the difference between the stock return and the return on the relevant index; this measure is the market-adjusted return measure used by Lynch and Mendenhall (1997) and Chen, Noronha, and Singal (2004), among others. Next, the abnormal returns were computed. The market model parameters are estimated over a 240-day preannouncement window (ranging from -280 days to - 41 days relative to the announcement day) with the index returns as the proxy for the market portfolio.
2. Abnormal Returns= Difference between the stock return and the return on the relevant index i. e. (Stock Return- Returns of Index) Hypotheses 1: there is no change in Excess Returns between ones before and ones after the bonus issue. Hypotheses 2: there is no change in Abnormal Returns between the ones before and the ones after the bonus issue.
3. Normal Distribution TestFirstly, the normal distribution of all the stock was checked through a normal distribution test. This was done through One-Sample Kolmogorov-Smirnov Test on the SPSS software. It was found that all the companies’ stock returns and stock volume data were normally distributed. So the data was not distributed abnormally.
4. T-Tests were applied in order to assess whether the means of stock returns before and after the inclusion are statistically different from each other or not.

It means to examine whether there was any significant difference between them or not. It was carried out on SPSS software and it was found that there is a significant level between them. Similarly, T-test was applied in order to assess whether the means of stock volume before and after the bonus issues are statistically different from each other or not. It was carried out on SPSS software and it was found that there is a significant level between them. The test of equality of mean in the data processing is basically using a t-test. The day of execution (t0) is not included in the data compared to avoid the overreaction effect on the day of bonus announcement. The research conducted by Nuryadin (2004) and Lamoureux and Poon (1987) had done a similar methodology to study the volume change of individual companies on the day of bonus announcement.

Results and Discussion Previous research on bonus issues has not discovered any significant differences in price reaction around announcement dates between bonus issue announcements One of the most common experimental designs is the "pre-post" design. A study of this type often consists of two measurements taken on the same subject, one before and one after the introduction of a treatment or a stimulus. The basic idea is simple. If the treatment had no effect, the average difference between the measurements is equal to 0 and the null hypothesis holds. On the other hand, if the treatment did have an effect (intended or unintended! ), the average difference is not 0 and the null hypothesis is rejected. In the present research impact of the bonus issue on the stock, return is seen. The difference between the pre-issue returns and post-issue returns is seen in the companies listed continuously in Nifty from 2005-06 to 2009-2010.

Stock returns are analyzed over a sample frame from 30, 60, 90, and 240 days prior to the bonus issue announcements to 30, 60, 90 and 240 days subsequent to the announcement. stock returns are calculated over various event windows. To reflect the potentiality of event-induced variances this study used the paired sample t-test. The Paired-Samples T Test procedure is used to test the hypothesis of no difference between two variables. The data may consist of two measurements taken on the same subject or one measurement taken on a matched pair of subjects. Testable Hypotheses H1: Companies undertaking bonus issues will experience positive announcement period stock returns. H01: There is no significant difference between the pre and post-returns mean.

We hypothesize that the companies in our sample will experience positive announcement period stock returns on the basis that these announcements convey favorable information regarding the company’s future prospects to a less informed market (see for example, Foster and Vickrey (1978), Woolridge (1983), Grinblatt et al (1984), McNichols and Dravid (1990) and Anderson et al (2001).

The results of paired t-test applied on the pre and post-30 days returns showed that For GAIL, HCL, INFOSYS, ONGC, and TCS there is no difference between the pre and post-announcement returns. For DABUR, CIPLA, and RELIANCE the pre and post Announcement period stock returns have statistically significant Differences. Therefore, for these companies, we can conclude that the positive reaction to the announcement period is predominantly attributed to bonus issue announcements. These findings support the signaling hypothesis consistent with our first hypothesis.

In summary, announcement period results indicate strong support for hypothesis one, as companies issuing bonus shares appear to experience positive and significant announcement period abnormal returns.

Conclusion

This study examines the return reaction to bonus issues announcements. Bonus issue announcements led to statistically significant positive price reactions around announcement dates. The results in general have indicated that HCL, INFOSYS, TCS, and ONGC are the companies that have no significant differences in the pre and post-bonus issue announcement returns. On the other side, CIPLA came out to be the company whose returns were significantly different in the pre and post-bonus issue announcement. Looking to the other side, GAIL is the organization that shows no significant differences in the pre and post-bonus issue announcement returns for 30, 60, 240 days windows but for 90 days windows significant differences in the pre and post-bonus issue announcement returns are seen. This means the impact of the bonus share announcement is shown after 90 days.

Similarly, for DABUR, there is a significant difference in the pre and post-bonus issue announcement returns when tests are carried out for 30, 60, 240 days windows, but for 90 days windows, there comes no significant differences in the pre and post-bonus issue announcement returns. The magnitude of price reactions to bonus issue announcements was found to be statistically significantly related to the size of the bonus issue and preannouncement effect This study provides additional evidence of industry influence. Results obtained for IT companies (based on industry classification of the issuing Companies) indicate weaker announcement period return reaction as compared to pharmaceutical company Overall, then, the evidence presented in this paper lend considerable support for the signaling hypothesis and is consistent with the findings in the US, Sweden, Canada, and New Zealand. The signaling effect is stronger for industrial nonfinancial and mining companies than for financial companies.

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