The Board of Britannia recently approved the issue of bonus debentures to its shareholders in the ratio of 1:1. Like a true-blue bonus, the issue of bonus debentures will be free for shareholders. Instead of issuing bonus shares and reducing the market price, the bonus debenture is a better way of rewarding shareholders without diluting the price. Here is what you need to know about bonus debentures.

Not really taken off

The first company in India to issue bonus debentures was Hindustan Lever in 2001. However, since then only 6 companies have issued bonus debentures and Britannia is the latest addition to the list. That shows that the concept has not really picked up in India. For one, the issue of bonus debentures is not covered either in the Companies Act 1956 or even in the Companies Act 2013. Thus it involves a cumbersome regulatory process to get it through all the requisite approvals. That is one of the reasons, companies have not been too keen to issue them. Secondly, most bonus issues in India are aimed at reducing the market price and improving the liquidity of the stock in the market. That is not the case with bonus debentures as the price does not fall in proportion with the bonus ratio. Thirdly, bonus debentures are a firm commitment in terms of payment of interest and in terms of repayment of principal to the shareholders.

Benefits the company…

For companies sitting with surplus cash in their books, this is a good way to reward their shareholders. From the point of view of the company’s image, it is seen as issuing genuine value addition to shareholders since these bonus debentures will carry interest and will also be redeemed on the completion of their tenure. This is suited to companies which have large cash resources and very limited debt on their books. This hits two birds with one stone. On the one hand, shareholders are rewarded with a fixed income instrument and the company also manages to reduce its overall cost of capital through the issue of debt. After all, the cost of debt is always lower than the cost of equity!

Time for innovation…

Indian companies need to innovate with more such instruments with a very specific appeal. Just going after the plain vanilla dividends and buyback of shares is not adding value. From a shareholder point of view, the issue of bonus debentures is more a signal of the healthy cash flows of the company and also its willingness to reduce the cost of capital. For companies like Britannia, this offers the perfect answer. The need of the hour is to have a more comprehensive legislative framework that makes a specific provision for the issue of bonus debentures. That could be the much-needed trigger!