If you want to become a successful investor or trader, you should have a thorough understanding of the market fundamentals. An important fundamental aspect of investing is understanding the various types of corporate actions. Corporate actions are decisions that a company makes that affect the stock prices, either positively or negatively.
Some corporate actions might trigger a positive market response while others might affect the share price negatively.
A corporate action is any activity that brings material change to an organization and impacts its stakeholders, including shareholders. These events are generally approved by the company’s board of directors, shareholders may be permitted to vote on some events as well.
A cash dividend payout is a common corporate action that alters a company’s stock price. A cash dividend is subject to approval by a company’s board of directors, and it is a distribution of a company’s earnings to a specified class of its shareholders. For example, assume company ABC’s board of directors approves a Rs 10 cash dividend per share. On the ex-dividend date, company ABC’s stock price would reflect the corporate action and would be Rs 10 less than its previous closing price.
The decision to pay a dividend is taken in the Annual General Meeting (AGM) during which the directors of the company meet. The dividends are not paid right after the announcement. This is because the shares are traded throughout the year, and it would be difficult to identify who gets the dividend and who doesn’t. The following timeline would help you understand the dividend cycle.
Dividend Declaration Date: This is the date on which the AGM takes place, and the company’s board approves the dividend issue
Record Date: This is when the company decides to review the shareholders register to list down all the eligible shareholders for the dividend. Usually, the time difference between the dividend declaration date and the record date is 30 days.
Ex-Date/Ex-Dividend date: The ex-dividend date is normally set two business days before the record date. Only shareholders who own the shares before the ex-dividend date are entitled to the dividend. This is because, in India, the normal settlement is on a T+2 basis. So for all practical purposes, if you want to be entitled to receive a dividend, you need to ensure you buy the shares before the ex-dividend date.
Dividend Payout Date: This is when the dividends are paid out to shareholders listed in the register of the company.
Cum Dividend : The shares are said to be cum dividend till the ex-dividend date.
When the stock goes ex-dividend, usually the stock drops to the extent of dividends paid. For example, if ITC (trading at Rs. 335) has declared a dividend of Rs.5. On ex-date, the stock price will drop to the extent of dividend paid, and as in this case, the price of ITC will drop down to Rs.330. The reason for this price drop is because the amount paid out no longer belongs to the company.
Dividends can be paid anytime during the financial year. If it’s paid during the financial year, it is called the interim dividend. If the dividend is paid at the end of the financial year, it is called the final dividend.
A bonus issue is a stock dividend, allotted by the company to reward the shareholders. The bonus shares are issued out of the reserves of the company. These are free shares that the shareholders receive against shares that they currently hold. These allotments typically come in a fixed ratio such as 1:1, 2:1, 3:1, etc.
If the ratio is 2:1 ratio, the existing shareholders get 2 additional shares for every 1 share they hold at no additional cost. So if a shareholder owns 100 shares, he will be issued an additional 200 shares, so his total holding will become 300 shares. When the bonus shares are issued, the number of shares the shareholder holds will increase, but an investment’s overall value will remain the same.
To illustrate this, let us assume a bonus issue on different ratios – 1:1, 3:1 and 5:1
|Bonus Issue||No of shares held before bonus.||Share price before Bonus issue||Value of Investment||Several shares held after Bonus.||Share price after Bonus issue||Value of Investment|
There is a bonus announcement date, ex-bonus date, and record date similar to the dividend issue.
Companies issue bonus shares to encourage retail participation, especially when the company’s price per share is very high, and it becomes tough for new investors to buy shares. By issuing bonus shares, the number of outstanding shares increases, but each share’s value reduces, as shown in the example above. The face value remains unchanged.
A stock split is another common corporate action that alters a company’s existing shares. In a stock split, the number of outstanding shares is increased by a specified multiple, while the share price is decreased by the same factor as the multiple. For example, if company ABC announce its decision to undergo a 5-for-1 stock split, its share price will decrease by a factor of 5, while the shares outstanding will increase by a factor of 5. The main motive of a stock split is to increase the stock’s liquidity and make it affordable for small investors. A recent example of stock split is the 10:2 stock split of Apollo Tubes.
A reverse split would be implemented by a company that wants to force up the price of its shares. For example, a shareholder who owns 10 shares of stock valued at Rs 10 each will have only one share after a reverse split of 10 for one, but that one share will be valued at Rs 100. A reverse split can be a sign that the company’s stock has sunk so low that its executives want to shore up the price, or at least make it appear that the stock is stronger. The company may even need to avoid getting categorized as a penny stock. In other cases, a company may be using a reverse split to drive out small investors
M&A are a third type of corporate action that bring about material changes to companies. In a merger, two or more companies synergize to form a new company. The existing shareholders of merging companies maintain a shared interest in the new company. Contrary to a merger, an acquisition involves a transaction in which one company, the acquirer, takes over another company, the target company. In an acquisition, the target company ceases to exist, but the acquirer assumes the target company’s business, and the acquirer’s stock continues to be traded.
A spin-off occurs when an existing public company sells a part of its assets or distributes new shares in order to create a new independent company. Often the new shares will be offered through a rights issue to existing shareholders before they are offered to new investors. A spin-off could indicate a company ready to take on a new challenge or one that is refocusing the activities of the main business.
A company implementing a rights issue is offering additional or new shares only to current shareholders. The existing shareholders are given the right to purchase or receive these shares before they are offered to the public. The idea behind a rights issue is to raise fresh capital. However, instead of going public, the company approaches its existing shareholders. The rights issue could be an indication of promising new development in the company. The shareholders can subscribe to the rights issue in the proportion of their shareholding. For example, 1:4 rights issue means every 4 shares a shareholder owns; he can subscribe to 1 additional share. Needless to say, the new shares under the rights issue will be issued at a lower price than what prevails in the markets.
However, a word of caution – The investor should not be swayed by the company’s discount, but they should look beyond that. A rights issue is different from a bonus issue as one is paying money to acquire shares. Hence the shareholder should subscribe only if he or she is completely convinced about the company’s future. If the market price is below the subscription price/right issue price, it is obviously cheaper to buy it from the open market.
A buyback can be seen as a company’s method to invest in itself by buying shares from other investors in the market. Buybacks reduce the number of shares outstanding in the market; however, buyback of shares is an important corporate restructuring method. There could be many reasons why corporates choose to buy back shares…
- Improve the profitability on a per-share basis
- To consolidate their stake in the company.
- To prevent other companies from taking over.
- To show the confidence of the promoters about their company.
- To support the share price from declining in the markets.
When a company announces a buyback, it signals the company’s confidence about itself. Hence this is usually positive for the share price.
This is perhaps one of the important events to which the stocks react. The listed companies must declare their earning numbers once in every quarter, also called the quarterly earnings numbers. During an earnings announcement, the corporate gives out details on various operational activities, including:
- How much revenue has the company generated?
- How has the company managed its expense?
- How much money they did the company pay in terms of taxes and interest charges?
- What is the profitability during the quarter?
Besides some companies give an overview of what they expect from the upcoming quarters.
Every quarter when the company declares its earnings, the market participants match the earnings with their own expectation of how much the company should have earned.
The stock price will react positively if the company’s earnings are better than investor’s expectation. On a similar logic, the stock price will react negatively if the actual numbers are below the expectation.
You can check out all these data for any stock on Signals feature within the Stocks & ETFs section on Niyo Money and take more informed decisions while buying/selling a stock.
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