Re: Impact of Bonus Shares on Bank Share Price -
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July 1, 2010
This commentary seeks to address the feedback received from a contribution on the subject matter addressed here - http://proshareng.com/blog/?p=255
The comment from BJS argument is flawed. I calculated the company's growth using “Earning Multiple formula”. The formula BJS is referring to is for actual earnings growth calculation for year over year. The formula he presented is "The true growth figure should be 2010 net profit divided by 2009 net profit". This formula in accounting is used to calculate actual event. For example, lets assume that the company reported N20 billion in net profit in FY2008 and in FY 2009 that reported N35 billion, then the growth in profit is $15M, or 75% (i.e., FY 2009 profit of $35M "minus" FY 2008 net profit of N20 billion = N15 billion). You cannot use this same formula to determine the growth in earnings between FY 2009 and FY 2010, because FY 2010 has not occurred. That is why financial analysis requires that you use models such as "Earnings Multiple Model". This formula can be verified in any advanced financial analysis text book.
With respect to issuing bonus shares: Bonus shares increases the number of outstanding shares. How can anyone that understands simple accounting, categorically state that the number of outstanding shares does not impact the EPS and the PE of a firm. EPS is calculated using earnings and number of shares outstanding. Additionally, the PE is calculated using Stock price and EPS.Therefore, it is natural that the more shares a company has outstanding, the EPS will definitely decrease if the earnings does not grow in unison with the growth in outstanding shares. Using Zenith as an example, assuming that in FY 2009, the company reported net profit of N50 billion FY 2009 with total outstanding shares of 25 billion, the EPS is 2.0, but lets assume that in FY 2010, the company reported net profit of N55 billion with 30 billion shares outstanding, then the EPS will be 1.83. However, if the company did not issue any bonus shares and maintained 25 billion shares, then the EPS would be 2.2. So based on the aforementioned example, how can “BJS” argue that an increase in outstanding shares does not have a dilutive impact on EPS.
Additionally, “BJS” assertion that “Technically it doesn’t cost the bank anything to give shareholders extra shares and the shareholders don’t make anything more because your holding is simply divided by a higher number of unit of shares”, is not true. We should not forget that the more shares the company has, the amount paid in dividend will increase. A company that had 25 billion shares in FY 2009, and paid out N1/share in dividend paid out N25 billion, the same company with 30 billion shares outstanding in FY2010 will pay out N30 billion at N1/share dividend. How does issuing additionally shares not impact a company, if the company paid out N25 billion in FY 2009, but now in FY 2010, the same company pays out N30 billion? If earnings stay flat due to the tough economic environment, how can any firm afford the additional N5 billion dividend payout. This is basically why many companies with bloated shares accompanied by declining earnings are unable to pay significant dividends. We do not have to look far for examples, because there are several NSE listed companies that have been unable to pay significant dividends for years due to bloated shares and declining earnings.
Finally, “BJS” stated that” not a single institutional investor (i mean the foreign investors) that dials into any of these conference calls EVER brings up a question on bonus issues/dilution because they understand what I just said above and know it’s irrelevant and a waste of everybody’s time”, this statement again is flawed. BJS should look at the history of (MSFT) share buyback, reverse stock split, and share reconstructions. These strategies are not Nigerian inventions, but they have been utilized by banks (PHB, Spring, etc) in Nigerian and foreign firms with bloated floats. A couple of shares ago, the share price of Microsoft languished below $25, because it had large o/s shares that depressed its EPS/PE, which impacted its fair value calculation. Several Wall Street Analysts noted that the company’s bloated shares were impacting their share price. The MSFT had to buy back 2 billion of their shares, reducing the outstanding shares from slightly above 10 billion to 8.7 billion and subsequently the share price began to appreciate. Even domestically, PHB had bloated shares which prevented its shares from appreciating due to excess float which increased volatility. It was only after PHB performed share reconstruction, that its share began to appreciate. I believe that eventually most Nigerian banks will be forced to reduce their number of shares through buybacks or share reconstruction.
Chukwumah Biosah
Reference
· Bjs - 10 April, 2010, 10:04
Just a quick comment on the “dilution” impact on bonus issue (I have no issue with your comments on trading patterns etc). If I’m not mistaken you were one of two people that brought this point up on the Zenith call. I simply want to say that the only relevant point about these bonus issue is that the SIGNIFICANT AMOUNT OF SHARES OUTSTANDING may create volatility (Fidelity shares as an example) in the future as well as admin issues. I’d like to stress that your conclusion on “dilution” is flawed and plead with you and others who erroneously share your view and keep going on about dilution to earnings/shareholder value because of bonus issues to please drop this irrelevant point.Bonus issues do not dilute shareholder value nor do they make you worse off. It is totally irrelevant to a value proposition. Technically it doesn’t cost the bank anything to give you an extra share and you don’t make anything more because your holding is simply divided by a higher number of unit of shares. So please stop this misleading analysis on bonus issues. Your calculation on impact of bonus issues on EPS is also wrong. I refer specifically to the growth calculation. Your projected 2010 EPS calculations are actually correct but your growth (y/y) calculations are wrong because you should have gone back to adjust 2009 EPS (LOWER) to reflect the fact that you should have divided the “E” or net profit by a higher number of shares to reflect the bonus. The true growth figure should be 2010 net profit divided by 2009 net profit. Essentially, your calculation is not on a like-for-like basis. The growth in EPS or DPS should always normalise the share count. It’s the same thing that happens to the share price – the adjustment. To stress this point, if the P/E of a company is 10x i.e. N10 share price, N1.00 EPS. By this I mean trailing P/E so price today divided by 2009 EPS. Just because a bonus issue happens shouldn’t mean the P/E should change. If a 1:1 bonus happens, then the share price is adjusted down to N5…but you also have to adjust that EPS also from N1 to N0.50; that way N5/N0.50 still gives you a P/E of 10x. If I’ve been pedantic in my explanations or haven’t found a nicer way to put my view forward, my apologies but that’s because I’m actually sick and tired of hearing/reading the uncalled for attention that your piece/question draw to these bonus issues. There is no “reward” or “loss” or “dilution” associated with these issues; they are simply a waste of time and a wool some of these companies pull over gullible investors’ eyes. I acknowledge that this results in some erratic price movements and people do make money out of this, and the sentiment attached should not be dismissed completely but the only real impact of these bonus issues is a bloated share count which may turn out to be difficult to manage in the future…and I stress “may”, it doesn’t necessarily mean that would happen. If you don’t agree with my comments, I rest my case. You should have noticed that not a single institutional investor (i mean the foreign investors) that dials into any of these conference calls EVER brings up a question on bonus issues/dilution because they understand what I just said above and know it’s irrelevant and a waste of everybody’s time.
· Olu - 16 April, 2010, 10:19
BJS’s piece about the nil effect of bonus issue by companies is accurate and I share the summation about the effects, though not exactly the manner of expression, which was recognised by the writer anyway and apologies offered. I also understand and feel the “sickness and tiredness” that led to the expressions. For decades now, I have educated many on the fact that stock splits do not offer any additional value to a company to warrant stock movement. It is somewhat funny that stockbrokers and analysts push this argument, either by omission or commission. Also the news media but I will ignore journalists and financial writers because many truly are not financially educated, merely picking up bits and pieces from you know whom? stockbrokers and analysts of course. As BJS also points out, the mass ignorance (despite our ascribed “large well educated populace” ) of Nigerians fails, neglects and refuses to accept this and immediately share prices are marked down for div/bonus, price reacts upwards towards pre-mark down, EVEN if the company forecasts and publicly announces future operational challenges that may negatively impact EARNINGS AND/OR REVENUE GROWTH, the primary drivers for rising share prices. Does this make any one buying at that time stupid? Not necessarily because perceptions in the market vary and objectives, investment goals, etc too. A fundamental/value investor for the short/medium term may see no reason to go into the stock, while a technical investor especially with a short term orientation may enter the stock to ride the irrationality and profit thereon. Whether or not the technicalist ends up in the tiger’s stomach in the quest for this profit is another issue. In the end,as we all would know by now, market/investment hypothesis such as Miller and Modigliani that rests on assumption of investor rationality mostly do not work in the short run because we are not always rational and/or available at the time the rational decision is required (which is tantamount to irrationality in a fast moving market). My opinions, please. Thank you BJS for the piece to educate.Someday we will get there even if it is after the tortoise has done so, bathed and gone to bed.
· Adewale - 2 May, 2010, 13:51
If large shares does not impact share prices, why did some banks (i.e., PHB, spring, etc) and some insurance companies perform share reconstruction a couple of years ago?
· mcp - 29 May, 2010, 7:03
The growth in EPS or DPS should always normalise the share count. It’s the same thing that happens to the share price – the adjustment. To stress this point, if the P/E of a company is 10x i.e. N10 share price, N1.00 EPS. By this I mean <a href="http://www.mcpquestions.com">mcp</a>;trailing P/E so price today divided by 2009 EPS. Just because a bonus issue happens shouldn’t mean the P/E should change. If a 1:1 bonus happens
