Investors who have recently started investing in the share markets may have come across a lot of terminologies related to securities. One such term that forms the core of share market trading or investments is the face value of securities like stocks and bonds.
For investors to have a clear understanding of the concept of face value, here are all the details that they should know.
Meaning of face value
A company can raise capital through the share markets by issuing stocks via an Initial Public Offering (IPOs) or issuance of bonds. This is when it has to fix the face value of stocks and bonds issued.
Face value in a share market is:
- simply the price at which a company issues stocks or bonds and the same can be purchased by investors.
- also known as par value.
- fixed by the company after finalizing issuance of shares or bonds.
Face value of shares
The face value of shares of a company helps in determining its total equity share capital.
Equity share capital = face value of shares x the total number of shares
This helps a company in identifying the total amount of capital that it should maintain. Any funds left after taking care of its capital requirement can be distributed to investors as dividends. Thus, depending on how much earnings a business has made and its capital requirement, the shareholders may or may not receive dividends.
Face value of bonds
The face value of a bond is the amount that a bondholder receives from the issuer at the time of bond maturity.
At maturity, a bond could be worth more as per its interest rate. A bondholder can also earn capital appreciation at maturity depending on the increase in face value of the bond from a discounted issue price.
Prices of bonds that are sold in the secondary market may fluctuate depending on fluctuations in interest rate.
For example:
- if the ongoing interest rate is more than the bond’s coupon rate, the bond is sold at a discount below face value.
- if the interest rate is below the bond’s coupon rate, the bond is sold above face value.
Zero-coupon bonds are sold below face value as they do not involve any interest payment to the bondholder. Bondholders can gain profits from these through capital appreciation at maturity.
How is face value determined?
Companies can issue shares and bonds with a fixed value or face value. Face value estimates do not necessarily have a fixed criterion set for all companies. Typically, companies use their own estimates and calculations to determine the face value of their stocks or bonds.
Face value of stocks and bonds plays an important role from the company’s perspective since it helps the organization in estimating the accounting value of these securities. The same is then used in its balance sheet for financial reporting.
Knowing the face value of shares or bonds is an important step that investors must follow before starting to trade in them. Investors can find the face value of stocks and bonds stated on the stock or bond certificate. Investors can check the face value by referring to their Demat account.
How does face value influence dividend calculations?
The portion of a company’s annual profits that are distributed among existing shareholders is known as dividend. Calculation of dividends is impacted by the face value of outstanding shares of a company.
Investors can, therefore, use the stock’s face value to estimate potential dividends. Here is an example to understand this.
Suppose a company’s stock is currently trading at Rs. 100 in the market. The face value of the stock is Rs. 10. The company announces a dividend of 10%.
Thus, an investor can easily calculate that he/she can receive Re. 1 as dividend per stock as: 10% dividend is applied on the face value of the stock, which is Rs. 10 and not the market value of the stock.
What is the impact of face value on stock splits?
Many companies announce stock splits to allow more investors to invest in the company. Calculation of stock splits is also based on the face value of shares.
Investors must try to understand the impact of face value of a share on a stock split announcement.
In simple terms, a stock split is the division of the face value of a share.
If, for example:
- a company announces 1:5 split
- Face value of its shares is Rs. 10
The stock split will result in the face value of the stocks becoming Rs. 2 since each share will now be split into 5 shares. While the price of the outstanding shares will fall proportionately, the total number of stock holdings will rise. Thus, more shares will be available for investors after a stock split.
Face value plays an important role in various calculations surrounding stocks and bonds. Here’s how:
- Face value is used in calculation of market value of shares
- It is used in calculation of premiums
- It helps investors estimate returns
- It is used in calculation of interest payments
Conclusion
It is important to have a basic understanding about face value of shares and bonds while exploring investment opportunities in share markets. This can help in starting off a smoother investment journey.
FAQs
A market value is a stock’s current value quoted in the stock market on stock exchanges. Face value is the stock’s nominal value set at the time of issuance. Market value is determined by the markets or investors and face value is determined by the company.
Yes, a stock’s face value can change in case the company announces corporate actions such as stock split.
As per SEBI guidelines, the minimum face value requirement to be followed by all companies is Re. 1. Most companies in India that plan to get listed follow Rs. 100 as the face value.
Yes, a bond’s par value is the same as face value. Both these terms can be used interchangeably when it comes to bonds as well as stocks.
The book value of a company is the total value of its assets that shareholders can get in case the company is liquidated and after paying off all the debtors. Book value is therefore the net value of the company, as reflected in its books.
