Corporate actions are the benefits that a company announces for its shareholders to bring changes to its stocks. We have different types of corporate actions that a company can announce.
Here are five most important corporate actions that directly affect the securities issued by that company;
- Dividends
- Bonus issue
- Stock Split
- Rights Issue
- Buyback of shares
These corporate actions are generally approved by the company’s board of directors. Some corporate actions require shareholders approval.
Let us understand these corporate actions one by one and its impact on stock prices.
Dividends
Dividend is a very common corporate action that alters a company’s stock price.
Dividends are cash benefits issued out of the company’s profit or free reserve to its shareholders.
On the ex-date, the company’s stock will be trading after adjustment of dividend to its previous trading day’s closing price.
For example, suppose company XYZ limited has announced a Rs. 5 per share as cash dividend. On the ex-date, the company XYZ limited’s stock price will be adjusted by the effect of corporate action and will start trading Rs. 5 per share less than its previous trading day’s closing price.
Also read: When and why companies pay dividend
Bonus issues
Bonus issues is another common corporate action that alters a company’s existing shares.
In bonus issues, the company issues new shares to reward shareholders instead of cash dividend. This means, bonus issue is a stock dividend.
In other words, these are free shares issued to existing shareholders in a fixed ratio such as 1:1, 2:1, 3:1, etc.
To know more on bonus issues, you can refer to our earlier article on what is bonus issue and how it impacts stock price.
Stock Split
In absence of adequate profit for issuing bonus shares, the company might decide to go for a stock split. What it means is quite obvious- the stocks that you are currently holding are split.
When stock split happens, the number of shares held by shareholders increases, but the total investment value remains the same.
Example to illustrate impact of 1:2 Stock split.
| Stock Split ratio | 1:2 |
| Old face value of the share | 10 |
| Number of shares you own before the split | 100 |
| Market share price before the split | 900 |
| Value of your investment before the split | 90,000 |
| New Face value after the split | 5 (10/2) |
| Number of new shares allotted | 200 |
| Market share price after the stock split | 450 |
| Value of investment after the split | 90,000 (200*450) |
In our above example, the number of outstanding shares is increased by a specified multiple of 1:2, while the share price decreased by the same factor as the multiple.
Reverse split is a corporate action which is the opposite of stock split. In reverse split, the company will reduce the number of shares outstanding and increase the share price by the same factor as the multiple.
For example, a shareholder who owns 10 shares of stock valued at 10 each will have only one share after a 10:1 reverse split, but that one share will be valued at Rs. 100.
Right issue
In the right issue the company offers additional or new shares only to current shareholders.
In other words, the existing shareholder will only have the right to purchase new shares.
Post right issue, number of share outstanding increases and the share prices adjusted accordingly.
We have written another article to understand the impact of the right issue on share price.
Buyback of shares
In the buyback method, a company buys its own shares from existing shareholders in the market.
Post buyback of shares, the number of outstanding shares reduces in the market. In general buyback of shares has following impacts;
- Increases per share profitability of the company.
- Owners consolidate their stake in the company in order to avoid takeover.
- Shows promoters confidence in the company’s future.
Also read: How buyback of shares impact stock price
In addition to these a company can decide merger / demerger, amalgamation or consolidations of its units or company.These corporate actions also have a huge impact on stock prices.
Corporate action always has an impact on stock price. Market participants closely watch corporate actions to understand its impact on stock prices before taking a trade.
