A corporate action is anything a company does that changes the shares themselves rather than their price — splitting them, issuing more, paying out cash, or buying some back.
Most of them do not make you richer, which is the part that surprises people. What they change is the arithmetic of what you hold, and if you do not understand that arithmetic you will misread your own account and, if you backtest, produce results that are badly wrong.
Stock split
The company divides each share into several, and the face value divides with it. A 1:5 split turns one share worth 2,500 into five shares worth 500 each.
What changes: the number of shares you hold and the price of each.
What does not change: the value of your holding, your percentage ownership of the company, or anything about the business.
The reason companies do it is liquidity — a share priced at 2,500 is awkward for small investors, and 500 is not. That is genuinely the whole rationale.
Two practical consequences. Your app will show a large price drop on the ex-date and it is not a fall. And in a price series that has not been adjusted, that day looks like an eighty percent crash, which will make a mean-reversion backtest look extraordinary and be entirely fictional.
Bonus issue
The company issues additional shares to existing holders from its reserves. A 1:1 bonus gives you one extra share for each one held, and the price halves.
It looks like a gift and it is not. The company has moved money from reserves to share capital, an accounting entry that changes nothing about what the business is worth. You own twice as many shares of a company each of which represents half as much.
The difference from a split is technical: a split changes face value, a bonus does not and uses reserves instead. For a holder the effect on your position is broadly similar.
Worth knowing for tax: the cost of acquisition of bonus shares is treated as nil, and the holding period runs from the date they were allotted rather than from when you bought the original shares. That combination can produce a larger taxable gain later than people expect.
Dividend
The company pays out cash from its profits. The share price typically falls by roughly the dividend amount on the ex-date, because that cash has left the company.
This is the one people most often misunderstand. A dividend is not additional return on top of the share price — it is part of your existing value being handed to you in cash rather than remaining in the business. Total return counts both together, which is why comparing a high-dividend share with a low-dividend one on price alone is meaningless.
Ex-date and record date. To receive it you must hold the share before the ex-date. Buying on or after it means the seller gets the dividend.
Tax. Dividends are taxable in the hands of the investor at slab rates, and TDS applies above a threshold. The days of tax-free dividends are gone, and a strategy built on dividend income needs the after-tax number rather than the headline yield.
Buying purely to capture a dividend generally does not work, because the price adjusts and you now owe tax on the payout.
Rights issue and buyback
A rights issue offers existing shareholders the chance to buy new shares, usually below market price, in proportion to what they hold. It raises money for the company.
Three choices: subscribe, which costs money and maintains your proportion; sell the rights entitlement, which trades separately for a period; or do nothing, which lets it lapse worthless and dilutes your stake. Doing nothing is the only choice with no upside, and it is the most common one because people miss the window.
Ask why the money is being raised. Growth is one answer and repaying debt is another, and they are not equally encouraging.
A buyback is the reverse — the company purchases its own shares, usually above market price, reducing the count outstanding. Each remaining share represents a slightly larger claim on the business.
You choose whether to tender. The tender route has its own tax treatment, and acceptance is often proportional rather than complete when the offer is oversubscribed, so you may end up selling only part of what you offered.
What this does to a backtest
This section is why several other articles on this site keep referring back here.
Historical price series come in two forms. Unadjusted shows the actual traded price on each day, including the mechanical drop on an ex-date. Adjusted restates earlier prices so the series is continuous, as though the split or bonus had always existed.
Backtesting on unadjusted data produces spectacular nonsense. A 1:5 split reads as a single-day fall of eighty percent, and a mean-reversion rule will buy it enthusiastically and appear to make an enormous profit that never existed. Momentum rules read the same event as a catastrophic breakdown and exit positions that were never in trouble.
Three ways to handle it. Test indices and index derivatives, which are not subject to corporate actions and is one reason most retail systematic strategies begin there. Use adjusted data from a vendor that applies the adjustments. Or maintain a corporate-actions list and adjust it yourself.
Whichever you choose, add a check to your data loader that flags any single-day move beyond a threshold and asks you to look at it. That one check catches almost every instance of this.
And what it does to derivatives
Less well known and it catches people holding positions across an event.
When a corporate action occurs, the exchange adjusts existing derivative contracts so that holders are not arbitrarily enriched or harmed. Strike prices and lot sizes are revised according to a published ratio, so a contract you hold changes its terms mid-life.
Two practical points. Your position is not damaged by the adjustment — it is designed to be value-neutral. But the contract you are holding afterwards has a different strike and possibly a different lot size, and an automated system referring to the old contract specification will be confused by it.
If you run anything automated, resolve contract specifications from the instrument master each day rather than caching them, because this is one of the situations where yesterday's answer is no longer correct.
Company disclosures for all of these are published to the exchanges before the event, and most broker platforms show upcoming corporate actions for what you hold.
Your broker flags upcoming actions
Rights windows are missed by people who were never told. Account free to open
Corporate actions, settlement and taxation for an individual investor are part of our Stock Market for Beginners course at Rs 2,500 — one payment, permanent access, free demo on WhatsApp first.
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Frequently Asked Questions
Does a stock split make me richer?
No. You hold more shares at a proportionally lower price, and the value of your holding and your ownership percentage are unchanged. Companies split shares to improve liquidity, and that is genuinely the whole rationale.
Is a bonus issue free money?
No. The company moves money from reserves to share capital, which changes nothing about what the business is worth. For tax, bonus shares have a nil cost of acquisition and their holding period starts from allotment, which can produce a larger taxable gain later than expected.
Should I buy a share just before the dividend?
Generally not. The price typically falls by roughly the dividend on the ex-date because that cash has left the company, and the dividend is taxable in your hands at slab rates. You end up with the same value and a tax liability.
What happens if I ignore a rights issue?
The entitlement lapses worthless and your stake is diluted. It is the only one of the three choices with no upside - the others are to subscribe, or to sell the rights entitlement which trades separately for a period.
Why do corporate actions ruin a backtest?
On unadjusted data a 1:5 split reads as an eighty percent single-day crash. A mean-reversion rule buys it and shows an enormous profit that never existed. Use adjusted data, test indices which are not subject to corporate actions, or adjust it yourself - and flag any implausible single-day move in your loader.
What happens to my options if the company announces a bonus?
The exchange revises strike prices and lot sizes by a published ratio so the adjustment is value-neutral. Your position is not harmed, but the contract terms change mid-life, so an automated system should resolve specifications from the instrument master daily rather than caching them.
Related Reading
- What are outstanding shares?
- How to read a cash flow statement
- Zerodha historical data API in Python
- Backtesting a trading strategy in Python
- Stock Market for Beginners - full syllabus
Disclaimer: TheFinBaba provides educational content only - this is not investment advice. Trading involves risk of loss.
