Cash Dividend vs Bonus Shares: Why Bonus Isn't Free Money

Every book-closure season, the excitement is the same. "20% bonus announced!" The WhatsApp groups go wild. People rush to buy before the book closure date. Then the price adjusts and they wonder where the gain went.

Let's clear this up properly, because the difference between a cash dividend and a bonus share is one of the most misunderstood things in the Nepali share market.

A few terms first

Face value (par value): the nominal value of a share, usually Rs 100 in Nepal (some companies, like mutual fund units, use Rs 10). Dividend percentages are calculated on this, not on the market price.
Book closure date: the date the company "closes its books" to decide who's eligible. You need to own the shares (settled in your Demat) before this date to get the dividend or bonus.
AGM: the Annual General Meeting where shareholders approve the proposed dividend or bonus.

Cash dividend

The company pays you cash from its profits.

If you own 100 shares and the company declares a 10% cash dividend, that's 10% of the Rs 100 face value, so Rs 10 per share. You get Rs 1,000 before tax. Tax is withheld at source before it reaches your bank account.

Real money leaves the company and comes to you. The company now has less cash, and the share price usually adjusts down by roughly the dividend amount after book closure.

Note that a "10% dividend" sounds big, but it's on face value. If the share trades at Rs 800, Rs 10 is only a 1.25% return on the market price. That's called the dividend yield, and it's a more honest way to compare.

Bonus shares

The company gives you extra shares instead of cash. A 20% bonus on 100 shares gives you 20 more, for 120 total.

But no money left the company. The company has simply moved some of its retained earnings into share capital on the balance sheet. The same business is now cut into more pieces.

That's why the market price adjusts downward after book closure.

How the price adjustment works

The adjustment roughly follows this logic:

Adjusted price ≈ price before book closure ÷ (1 + bonus ratio)

So for a 20% bonus on a share at Rs 600: Rs 600 ÷ 1.2 = Rs 500.

Before: 100 shares × Rs 600 = Rs 60,000
After: 120 shares × Rs 500 = Rs 60,000

Your total value is the same. (If there's also a cash dividend, the price adjusts for that too.)

Think of it as cutting a pizza into 10 slices instead of 8. You don't get more pizza.

After the adjustment, the price can of course move up or down based on the market. But the bonus itself didn't create value.

The tax catch on bonus shares

This surprises a lot of people. Bonus shares are taxed, typically on their face value, even though you didn't receive any cash.

That's why companies announcing a bonus often also announce a small cash dividend at the same time, which is mostly there to cover the tax on the bonus. For example: "20% bonus and 1.05% cash dividend (for tax purpose)". The cash portion is withheld to pay the tax, and you might receive little or nothing in your bank account.

If there's no cash dividend to cover it, you may need to pay the tax yourself before the bonus shares are credited. Check the company's notice and your DP's instructions.

Tax rates and rules change, so check with the IRD or a tax professional for current treatment.

Why do companies issue bonus shares?

Several reasons, not all of them exciting:

To meet capital requirements: many Nepali banks and insurance companies have had to increase their paid-up capital to meet regulatory minimums. Bonus shares are one way to do that without asking shareholders for more money.
To keep cash in the business: instead of paying out cash, the company keeps it for growth or to build reserves.
To make shares more affordable: a lower per-share price after adjustment can increase trading.
Because shareholders like them: this is partly psychological. Many investors in Nepal feel happier with "more shares" even when the value is the same.

A company issuing bonus shares year after year mainly to meet capital requirements is telling you something different from "the business is booming".

The downside of bonus shares nobody talks about

When the share count keeps growing, the company needs to keep growing its profit just to maintain the same EPS. If profit doesn't keep pace, EPS falls, and future dividends per share can shrink. I explain this more in my post on EPS and P/E.

Which is "better"?

Neither, automatically.

A company paying big cash dividends isn't necessarily healthier than one reinvesting profits to grow. Sometimes high dividends mean the company has nothing better to do with its money.
A company issuing bonus shares isn't necessarily doing well. Sometimes it's just meeting a regulatory requirement.
A company paying nothing isn't necessarily bad, as long as it's reinvesting wisely.

What matters is the underlying business: cash flow, debt, profit growth, governance. Here's how to read the annual report to judge that.

The "buy before book closure" trap

Every year, people buy shares a few days before book closure to "get the bonus". Then:

The price often rises in the days before book closure, because everyone has the same idea.
They buy at the higher price.
After book closure, the price adjusts down.
They may have to pay tax on the bonus.
They've paid broker commission on the purchase.

Net result: often a loss. There's no free lunch in buying just before book closure.

Before you act

Read the company's official announcement for the book closure date, the bonus and cash ratios, and whether the proposal still needs AGM or regulatory approval. Proposed dividends can be changed or rejected.
Remember settlement takes a couple of days. If you buy too close to book closure, the shares might not be in your Demat in time.
Check tax with the IRD or a tax professional.
Bonus shares can take some time to appear in your Demat after the AGM. Check Mero Share.

Bottom line

Don't buy a share only for its dividend or bonus. Buy it because you like the business at that price. Dividends and bonuses are the result of a good business, not the reason it's good.

General information, not personal financial advice. Rules, rates and fees change, so check with the official source (SEBON, NRB, CDSC, IRD or the Nepal Insurance Authority) before you act. Have a question? Leave it in the comments.