Free lunch? Not quite...

In the latest in our series on understanding the stock markets, John Andrew explains the rationale behind scrip issues, in which a company will offer its investors `free' extra shares

Free shares, in the sense that shareholders are better off after receiving them, are not as rare as hens' teeth. But they are nevertheless unusual.

Founder shareholders in some of the Government's privatisation issues received free "loyalty shares" and, of course, members of building societies such as the Halifax which have decided to adopt public limited company status will receive free shares.

However, the "free" shares generally encountered by shareholders normally leave them no better off. In City jargon these are known as scrip issues. Technically they are a capitalisation of reserves. This sounds complicated, but it is very straightforward.

Suppose a company begins life with the issue of one million shares at pounds 1 each. The proceeds will raise pounds 1m, which we will assume is used to buy assets for the business. Let us now put the clock forward a few years.

Assume over that period the company has done well and while the shareholders received dividends, the company also ploughed back pounds 9m of profits into the business. The accounts still show share capital of pounds 1m and reserves of pounds 9m.

This is a simplification, but suppose the company's shares are now priced pounds 10 (the shareholders' funds are pounds 1m + pounds 9m = pounds 10m; pounds l0m divided by pounds 1m = pounds 10 per share).

Let us suppose the directors announce a scrip issue and every shareholder will receive one extra share for every one they own. In City parlance this is called a 1-for-1 scrip issue. Each shareholder's holding in the firm will double. The company is still worth pounds 10m, but the number of shares has increased from one million to two million. Each share is now worth pounds 5 (pounds 10m divided by two million shares).

So why does a company have a scrip issue? The popular explanation is that the shares are considered "expensive". In other words, pounds 10 a share may be a barrier for new investors, whereas they will buy at pounds 5.

This defies logic, but, if you look at the price of shares quoted on the London Stock Exchange, you will notice that prices are generally under 1,000 pence.

As Stuart Valentine, Director of Proshare, the organisation to promote share ownership, says: "A scrip issue just proves the old adage that there's no such thing as a free lunch - or a free anything else for that matter."

So what does an investor have to do when a company announces a scrip issue? The answer is usually "nothing". Shareholders will receive notification of the scrip issue from the company. This includes a timetable for the procedure. One of the pertinent pieces of information will be the "records date".

All those on the shareholder's register at that time will be entitled to the scrip issue. Five to ten days afterwards, the shares will be quoted "ex scrip" on the market. This means the share price has been adjusted for the issue. The letters "xc", where "c" stands for "capitalisation", will appear after the price of the shares quoted in the press.

As soon as the new certificates are ready, they will be mailed to shareholders. Those wishing to sell their entire holding before their new certificate arrives may do so, for stockbrokers will be aware of the situation. However, it must be made clear when the sale instructions are given that you wish to sell "old" shares which are equivalent to a certain number of "new" shares.

When the new certificate arrives, it must be forwarded to the broker who dealt with the sale.

Your broker will always be pleased to answer any questions that you have and to give guidance

Independent Partners; Do you need financial advice on your investments, pension or insurance? Book a free consultation with an independent Financial Adviser at VouchedFor.co.uk

Finacial products from our partners
Property search
Latest stories from i100
Have you tried new the Independent Digital Edition apps?
Independent Dating
and  

By clicking 'Search' you
are agreeing to our
Terms of Use.

ES Rentals

    iJobs Job Widget
    iJobs Money & Business

    Recruitment Genius: Sales Assistant / Buyer

    £15000 - £17000 per annum: Recruitment Genius: This company offers a range of ...

    Recruitment Genius: Customer Service Advisor

    £15000 - £16000 per annum: Recruitment Genius: Customer Service Advisors are r...

    SThree: Trainee Recruitment Consultant

    £20000 - £25000 per annum + OTE £45K: SThree: SThree were established in 1986....

    Recruitment Genius: Compliance Manager

    £40000 - £60000 per annum: Recruitment Genius: A Compliance Manager is require...

    Day In a Page

    The Greek referendum exposes a gaping hole at the heart of the European Union – its distinct lack of any genuine popular legitimacy

    Gaping hole at the heart of the European Union

    Treatment of Greece has shown up a lack of genuine legitimacy
    Number of young homeless in Britain 'more than three times the official figures'

    'Everything changed when I went to the hostel'

    Number of young homeless people in Britain is 'more than three times the official figures'
    Compton Cricket Club

    Compton Cricket Club

    Portraits of LA cricketers from notorious suburb to be displayed in London
    London now the global money-laundering centre for the drug trade, says crime expert

    Wlecome to London, drug money-laundering centre for the world

    'Mexico is its heart and London is its head'
    The Buddhist temple minutes from Centre Court that helps a winner keep on winning

    The Buddhist temple minutes from Centre Court

    It helps a winner keep on winning
    Is this the future of flying: battery-powered planes made of plastic, and without flight decks?

    Is this the future of flying?

    Battery-powered planes made of plastic, and without flight decks
    Isis are barbarians – but the Caliphate is a dream at the heart of all Muslim traditions

    Isis are barbarians

    but the Caliphate is an ancient Muslim ideal
    The Brink's-Mat curse strikes again: three tons of stolen gold that brought only grief

    Curse of Brink's Mat strikes again

    Death of John 'Goldfinger' Palmer the latest killing related to 1983 heist
    Greece debt crisis: 'The ministers talk to us about miracles' – why Greeks are cynical ahead of the bailout referendum

    'The ministers talk to us about miracles'

    Why Greeks are cynical ahead of the bailout referendum
    Call of the wild: How science is learning to decode the way animals communicate

    Call of the wild

    How science is learning to decode the way animals communicate
    Greece debt crisis: What happened to democracy when it’s a case of 'Vote Yes or else'?

    'The economic collapse has happened. What is at risk now is democracy...'

    If it doesn’t work in Europe, how is it supposed to work in India or the Middle East, asks Robert Fisk
    The science of swearing: What lies behind the use of four-letter words?

    The science of swearing

    What lies behind the use of four-letter words?
    The Real Stories of Migrant Britain: Clive fled from Zimbabwe - now it won't have him back

    The Real Stories of Migrant Britain

    Clive fled from Zimbabwe - now it won’t have him back
    Africa on the menu: Three foodie friends want to popularise dishes from the continent

    Africa on the menu

    Three foodie friends want to popularise dishes from the hot new continent
    Donna Karan is stepping down after 30 years - so who will fill the DKNY creator's boots?

    Who will fill Donna Karan's boots?

    The designer is stepping down as Chief Designer of DKNY after 30 years. Alexander Fury looks back at the career of 'America's Chanel'