Q.What is a bonus issue of shares? State the conditions that must be satisfied before a company can make a bonus issue.

A bonus issue turns a company's own accumulated profit into share capital, and the law only allows this once several safeguards are met, so it can never be used as a substitute for paying an overdue debt or dividend.

Section 63 of the Companies Act, 2013 permits a company to issue fully paid-up bonus shares to its existing equity shareholders by capitalising its own free reserves, or the balance in its Securities Premium Account, or its Capital Redemption Reserve Account. In effect, instead of distributing accumulated profit as cash dividend, the company converts that very profit into additional share capital and allots the resulting shares to its existing equity shareholders, entirely free of cost, in proportion to their existing holding — which is why a bonus issue is often described as 'capitalisation of profit.'

Because a bonus issue permanently and irreversibly converts what was distributable profit into non-distributable share capital, the law surrounds it with firm conditions before a company may make one. The issue must be authorised by the company's own Articles of Association, and must be sanctioned by the shareholders in general meeting, on the recommendation of the Board of Directors. The company must not be in default in the payment of interest or principal in respect of any fixed deposits or debt securities it has issued. It must also not be in default in payment of statutory dues of its employees, such as provident fund contributions, gratuity or bonus. Any shares of the company that are only partly paid up must be made fully paid up before the bonus issue can be made, so that the bonus issue is never used to quietly clear a partly-paid liability. And two further safeguards close off any misuse: a bonus issue, once publicly announced by the Board, cannot subsequently be withdrawn, and a bonus issue can never be made in lieu of dividend — a company that has the resources to declare a bonus issue …

Students often say a bonus issue 'raises fresh capital' for the company — it does not; no new money comes in at all, only an internal reallocation from reserves to share capital takes place. Another frequent gap is forgetting the 'no …