Share Buyback and Bonus Issue: Rules, Accounting and EPS Impact (CAIIB ABFM)

For CAIIB ABFM candidates, share buyback and bonus issue are among the most frequently tested corporate finance topics because they combine company law, SEBI regulation, accounting, and ratio analysis in a single question. A buyback returns cash to shareholders by extinguishing shares, while a bonus issue capitalises reserves into fresh shares without touching cash at all. Both actions move Earnings Per Share and the debt-equity ratio, often in opposite directions, and examiners like pairing the two to test whether you can separate mechanism from effect. This guide covers Companies Act 2013 Sections 68 and 63, the SEBI Buy-Back of Securities Regulations, the tender offer versus open market route, the accounting entries you must memorise, and the EPS and capital structure impact you need for the exam. Before you go further, revisit the fundamentals of Planning and Controlling from your ABFM chapters, since capital decisions like buyback and bonus issue sit squarely inside the financial planning and control function of management.

📜 Legal Framework: Companies Act 2013 Sections 68 and 63

Section 68 of the Companies Act 2013 governs buyback of shares. A company can buy back its own equity shares or other specified securities out of its free reserves, the securities premium account, or the proceeds of an earlier issue of shares or specified securities other than the same kind. The buyback in any financial year cannot exceed 25% of the aggregate of paid-up capital and free reserves, and buyback of equity shares alone cannot exceed 25% of the paid-up equity capital in that year. After the buyback, the debt-equity ratio must not exceed 2:1, though the government can notify a higher ratio for specific classes of companies.

A buyback up to 10% of paid-up equity capital and free reserves can be authorised by a board resolution alone; anything beyond that up to the 25% ceiling needs a special resolution of shareholders. The company cannot make a further issue of the same kind of shares within six months of completing a buyback, except for bonus issues, conversion of warrants, stock option schemes, sweat equity, or conversion of preference shares or debentures into equity. No fresh buyback offer is allowed within one year of the closure of a preceding buyback, and the entire buyback must be completed within one year from the date the resolution is passed.

Section 63 permits a company to issue fully paid-up bonus shares out of its free reserves, the securities premium account, or the capital redemption reserve, but never out of reserves created by revaluation of assets. A company that has defaulted in payment of interest or principal on fixed deposits, debt securities, or statutory dues to employees such as provident fund and gratuity cannot issue bonus shares until the default is made good, and bonus shares can never be issued in lieu of dividend.

📌 Remember: Buyback up to 10% of paid-up capital plus free reserves needs only a board resolution; beyond 10% and up to the 25% ceiling, a special resolution is mandatory. This threshold is a favourite CAIIB numerical trap.

🏛️ SEBI Buyback Regulations: Tender Offer vs Open Market Route

Listed companies must also comply with the SEBI (Buy-Back of Securities) Regulations, 2018, in addition to Section 68. Under the tender offer route, the company makes a public offer to buy back shares at a fixed price from all eligible shareholders on a proportionate basis, with at least 15% of the buyback size reserved for small shareholders holding shares of market value up to a prescribed limit. The company must open an escrow account for the entire consideration and appoint a merchant banker to manage the offer, and the buyback is routed through a registrar to the issue.

The open market route, historically conducted through the stock exchange mechanism or book-building, allowed companies to buy back shares gradually at prevailing market prices over the offer period rather than at one fixed price. SEBI has progressively tightened and phased out this route in recent regulatory cycles because it created scope for price manipulation and gave promoters flexibility to time purchases; candidates should treat the tender offer as the primary, more heavily examined route today and read the qualitative direction of reform rather than memorising a specific transition date, since SEBI circulars keep refining the timeline.

Both routes require the company to extinguish and physically destroy the bought-back shares within specified timelines and to maintain a register of securities bought back. A declaration of solvency signed by at least two directors, one of whom must be a managing director if one exists, must be filed with the Registrar of Companies and SEBI before the buyback opens, confirming the company can meet its liabilities and will not be rendered insolvent within a year. The full text of the regulations, along with periodic amendments, is published on the SEBI website and should be your reference for the latest thresholds before exam day.

⚠️ Common Mistake: Students confuse the small shareholder reservation with the promoter participation rule. The 15% reservation is for small shareholders in a tender offer; it has nothing to do with promoter eligibility to tender shares.

🧮 Accounting Entries for Buyback and Bonus Issue

When shares are bought back at a price above face value, the nominal value is debited to Equity Share Capital A/c and the premium portion is debited to Securities Premium A/c or free reserves, with the total credited to Bank A/c on payment. Where the buyback is financed out of free reserves rather than out of a fresh issue of securities, the company must transfer an amount equal to the nominal value of shares bought back to the Capital Redemption Reserve, debiting free reserves such as General Reserve or retained earnings and crediting Capital Redemption Reserve A/c. This CRR can later be used only to issue fully paid bonus shares, mirroring the logic of Section 69.

A bonus issue is accounted for by capitalising reserves: Securities Premium A/c, free reserves, or Capital Redemption Reserve is debited, and Bonus to Shareholders A/c is credited, which is then transferred to Equity Share Capital A/c on allotment of the new shares. No cash moves in a bonus issue; total shareholders' funds remain unchanged because the reduction in reserves is exactly offset by the increase in paid-up capital. This is the key conceptual difference examiners test: a buyback reduces both cash and net worth, while a bonus issue only reclassifies net worth between reserves and capital.

📈 Impact on EPS and Capital Structure

A buyback reduces the number of outstanding equity shares while net profit for the year is largely unaffected in the short run, so Earnings Per Share mechanically rises, all else equal, even though total earnings have not grown. This is why buybacks are sometimes criticised as an artificial way to flatter per-share metrics rather than a sign of genuine value creation, and CAIIB candidates should be able to distinguish EPS growth from buyback versus EPS growth from operating performance. Because the buyback is funded from cash or free reserves, the equity base shrinks, which pushes up the debt-equity ratio and return on equity, and can also reduce liquidity ratios if financed from cash reserves.

A bonus issue works in the opposite direction on EPS: the number of shares increases in the bonus ratio, for example a 1:1 bonus doubles the share count, and net profit is spread over a larger base, so basic EPS per share falls proportionately even though the shareholder's total holding value is theoretically unchanged. Under Ind AS 33, a bonus issue is treated as if it had occurred at the beginning of the earliest period presented, so EPS for all comparative periods must be restated for comparability. Capital structure ratios that use paid-up capital, such as book value per share, also change with a bonus issue, but the debt-equity ratio measured on total shareholders' funds is largely unaffected since reserves simply move into capital.

🧠 Practice MCQs: Share Buyback and Bonus Issue

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❓ FAQs on Share Buyback and Bonus Issue

🎯 Conclusion: Lock In Buyback and Bonus Issue for CAIIB ABFM

Share buyback and bonus issue look similar on the surface because both change the share count without a new external investor, but they sit on opposite sides of the balance sheet: one pays out cash and shrinks net worth, the other simply reclassifies reserves into capital. For the exam, anchor your revision on the numerical thresholds in Section 68, the free reserves restriction in Section 63, the CRR transfer entry, and the direction of EPS movement, since these are the details examiners probe most. Cross-reference this with financial statement analysis to see how buyback and bonus adjustments flow through to ratios, and revisit CAPM and portfolio risk return for how the market prices these capital actions. If you also handle documentary transactions at the branch, brush up on the Negotiable Instruments Act provisions for bankers as a complementary CAIIB topic. For the underlying management concepts behind capital decisions, review basic of management and browse more posts on the ABFM tag hub. Ready to test yourself? Take a full CAIIB course mock or jump straight into practice tests to lock in these rules before exam day.