Business Finance · Capital structure and dividend policy

Share Buybacks, Scrip and Special Dividends Explained

Updated 11 October 2026 · Fact-checked

These are ways a company returns cash to shareholders or changes its share count. A buyback or special dividend pays out cash. A scrip dividend gives shares instead of cash. Bonus and rights issues change share numbers. To solve questions, compute the new share count, the new value per share and the effect on each shareholder's wealth.

Understand Share Buybacks, Scrip and Special Dividends

A company can give value to shareholders in several ways. The usual way is a cash dividend. A special dividend is a one-off cash payment, often made when the company has surplus cash that it cannot use at the required return. It does not signal a permanent change in the regular payout.

A share buyback (repurchase) uses company cash to buy back its own shares. The number of shares falls. Earnings per share (EPS) rises if the after-tax return lost on the cash used is lower than the earnings yield (EPS ÷ buyback price) of the shares repurchased. Shareholders who sell receive cash. Those who do not sell own a larger share of the company. In a perfect market with no tax, a buyback and a dividend of the same amount leave shareholders equally well off. In practice, tax treatment, signalling and the legal rules differ.

A scrip dividend offers shares instead of a cash dividend. The company keeps its cash. Shareholders who take shares avoid dealing costs. They may also get a tax benefit, depending on the rules. Compared with a cash dividend, retaining the cash can keep gearing the same or lower, because equity is higher than it would be after a cash payout.

A bonus (scrip or capitalisation) issue gives free shares in proportion to existing holdings, paid for by converting reserves into share capital. No cash moves. The share price falls in proportion and total value does not change. A rights issue offers new shares to existing shareholders at a discount, in proportion to their holdings. It raises cash. The price after the issue is a blend of the old price and the issue price. This blend is the theoretical ex-rights price (TERP).

The common idea is value conservation. In a perfect market, these actions only move value between cash and shares. Exam questions test whether you can show that, and whether you can explain where real-world frictions make a difference.

Key rules to remember

Theoretical ex-rights price (TERP): TERP = (N × P₀ + n × Pᵣ) ÷ (N + n); N = old shares in the rights ratio, n = new shares offered in that ratio, P₀ = cum-rights price, Pᵣ = issue price. Assumes the market value of the company rises by exactly the cash raised.
Value of a right (per new share): Value of right per new share = TERP − Pᵣ; Per existing share, multiply by n ÷ N.
Ex-bonus price: Ex-bonus price = P₀ × N ÷ (N + n); For a bonus of n shares for every N held. Total value is unchanged.
Buyback effect on shares: Shares repurchased = Cash used ÷ Buyback price; New shares = old shares − shares repurchased.
EPS after buyback: New EPS = (Earnings − after-tax earnings lost on cash used) ÷ New number of shares; If no earnings are lost on the cash, divide old earnings by the new share count.
Dividend equivalent in a perfect market: Ex-dividend price = Cum-dividend price − Dividend per share; With no taxes or costs, value falls by the cash paid out.
Scrip dividend shares: Shares received per share held = Cash dividend per share ÷ Reference share price; The reference price is set by the company. Use the price given in the question.

How to solve Share Buybacks, Scrip and Special Dividends questions

Use this order for any question on payouts and share changes. State your assumptions, such as no tax and no dealing costs, before you start.

1Identify the action: cash dividend, special dividend, buyback, scrip dividend, bonus issue or rights issue.
2Write down the starting facts: shares in issue, price, earnings, cash, and the ratio or amount involved.
3Find the new number of shares and the cash effect. Cash paid out lowers company value. Cash raised raises it. Bonus issues change neither.
4Compute the new value per share. Use TERP for a rights issue, the proportional fall for a bonus issue, or the price less dividend for a cash payout.
5Compute the effect on a typical shareholder. Compare total wealth (shares plus cash) before and after the action.
6Work out the ratios the question asks for, such as EPS, P/E, dividend per share or gearing.
7Comment on the real-world differences: tax, signalling, dealing costs, control and legal limits.
8Check your answer. Wealth should be unchanged in a perfect market unless the question introduces a friction.

Quickest way: Total-value shortcut

When to use it: Use this for MCQs and for the first part of a written question, when you need a price or a wealth comparison quickly.

Compute total market value before the action: shares × price.
Add cash raised or subtract cash paid out. Bonus issues change nothing.
Divide by the new number of shares to get the new price.
For a rights issue, this is the same as TERP. Check it against the weighted average formula.
Compare shareholder wealth by adding any cash received to the value of the shares held.

Common mistakes in Share Buybacks, Scrip and Special Dividends

Treating TERP as the simple average of the old price and the issue price.
Students forget that the number of shares at each price differs.
Fix: Weight each price by the number of shares. Use (N × P₀ + n × Pᵣ) ÷ (N + n).
Saying a bonus issue creates wealth for shareholders.
The holder sees more shares and assumes more value.
Fix: Total value is unchanged. The price per share falls in proportion. Only the number of shares changes.
Forgetting that a rights issue holder who does nothing loses wealth.
Students focus on the discount and forget the price fall.
Fix: Compare three options: take up the rights, sell the rights, or let them lapse. Taking up the rights means paying the issue price in cash. Wealth is unchanged because the new shares are worth the cash paid plus the value of the rights. Selling the rights gives cash equal to the value of the rights, so wealth is also unchanged. Letting the rights lapse loses the value of the rights.
Using the old share count for EPS after a buyback.
The share count is written at the start and not updated.
Fix: Subtract the repurchased shares first. Then divide the earnings by the new count.
Claiming a buyback always raises the share price.
Students copy the EPS rise as a price rise.
Fix: In a perfect market value per share is unchanged. A rise in EPS is offset by a lower P/E or by less cash. Any gain comes from signalling, tax or a buyback price below fair value.
Ignoring tax and signalling when asked to discuss a payout.
Students stop after the calculation.
Fix: Add a short comparison of tax treatment, dealing costs, signalling effect and legal limits. State these as possible effects, not certainties.

Worked examples

Example 1

A company has 10,00,000 shares at a market price of ₹200. It offers a 1-for-4 rights issue (one new share for every four held) at ₹160. Calculate the TERP and the value of the right per existing share.

Show the solution

The ratio is 4 old shares to 1 new share, so N = 4 and n = 1.
TERP = (4 × 200 + 1 × 160) ÷ 5.
Numerator = 800 + 160 = 960.
TERP = 960 ÷ 5 = ₹192.
Value of a right per new share = 192 − 160 = ₹32.
Per existing share, multiply by 1 ÷ 4: 32 ÷ 4 = ₹8.

Answer: TERP is ₹192. The right is worth ₹32 per new share, or ₹8 per existing share.

Example 2

A company has 5,00,000 shares in issue, earnings of ₹50,00,000 and a share price of ₹100. It uses ₹50,00,000 of surplus cash to buy back shares at ₹100. Assume no tax, no dealing costs and that the cash earns nothing. Find the new EPS and P/E and the effect on a holder of 1,000 shares who does not sell.

Show the solution

Old EPS = 50,00,000 ÷ 5,00,000 = ₹10. Old P/E = 100 ÷ 10 = 10.
Shares repurchased = 50,00,000 ÷ 100 = 50,000.
New shares = 5,00,000 − 50,000 = 4,50,000.
The cash earns nothing, so earnings stay at ₹50,00,000.
New EPS = 50,00,000 ÷ 4,50,000 = ₹11.11 (to 2 decimal places).
Market value before = 5,00,000 × 100 = ₹5,00,00,000. After the buyback, value = 5,00,00,000 − 50,00,000 = ₹4,50,00,000.
New price = 4,50,00,000 ÷ 4,50,000 = ₹100. New P/E = 100 ÷ 11.11 = 9.0 (approximately).
The P/E falls because the price of ₹100 before the buyback included the idle ₹50,00,000 of cash, which earned nothing. Once the cash leaves, EPS rises but the price per share stays at ₹100, so the P/E is lower.
Holder who does not sell: 1,000 shares × ₹100 = ₹1,00,000, the same as before. Their share of the company rises from 1,000 ÷ 5,00,000 = 0.2% to 1,000 ÷ 4,50,000 = about 0.222%.

Answer: New EPS is about ₹11.11 and the P/E falls to about 9. The P/E falls because the old price included idle cash that earned nothing. The price stays at ₹100, so a non-selling holder's wealth is unchanged at ₹1,00,000. Their ownership share rises to about 0.222%.

Exam tips

Write the formula and the ratio (N and n) before you substitute. Examiners give method marks.
State your assumptions, such as no tax, no dealing costs and perfect markets, when you claim that wealth is unchanged.
In discussion parts, give both sides: why a company might choose a buyback or scrip dividend, and the risks or limits.
In MCQs, check whether a question asks for the price per share or the value of a right. The two differ.
Link payout choices to dividend theory and signalling. Use one or two clear points, not a long list.

Practice questions from Capital structure and dividend policy

Share Buybacks, Scrip and Special Dividends in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

Share Buybacks, Scrip and Special Dividends: frequently asked questions

What is the difference between a share buyback and a dividend?

A dividend pays cash to every shareholder and the share count stays the same. A buyback pays cash only to shareholders who sell and reduces the share count. In a perfect market both leave shareholders equally well off. In practice tax and signalling differ.

What is a scrip dividend and why do companies offer it?

A scrip dividend gives shareholders new shares instead of cash. The company keeps the cash for investment or to reduce borrowing. Shareholders save dealing costs and may get tax benefits, depending on the rules.

How do I calculate the theoretical ex-rights price?

Weight the cum-rights price and the issue price by the number of shares at each price. Add the totals and divide by the total number of shares. For a 1-for-4 issue, TERP = (4 × old price + 1 × issue price) ÷ 5.

What is the difference between a bonus issue and a rights issue?

A bonus issue gives free shares from reserves and raises no cash. A rights issue sells new shares to existing shareholders at a discount and raises cash. A rights issue lowers the price per share when the issue price is below the cum-rights price. It increases the company's total value by the cash raised, while existing shareholders' wealth is unchanged in a perfect market.