Stock Dividends. Stock Dividends and Stock Splits. Amount of Stock Dividend. Created in 2006 By Michael Worthington Elizabeth City State University

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1 Stock Dividends and Stock Splits Created in 2006 By Michael Worthington Elizabeth City State University Stock Dividends Stock Dividends consist of additional shares of issued to current stockholders (instead of cash dividends) Boards of Directors declare Stock Dividends when their corporations earn high profits, but have no available cash because earnings have been reinvested Amount of Stock Dividend Stock Dividends are stated as a percentage of outstanding shares So a 10% Stock equals 10% of the number of shares already outstanding If 12,000 shares of stock were outstanding, the 10% Stock Dividend would consist of 1,200 shares (10% of 12,000) 1

2 Laws of Supply and Demand ALL Dividends increase the supply of stock, which decreases the price Small stock dividends have only a minor effect on prices, so the current stock price is still used to value the stock dividend Large stock dividends have a significant effect on the price of stock, so the current market value can NOT be used to value large stock dividends and the only remaining choice is PAR or STATED VALUE Reduction in the price due to an increase in numbers of shares is called dilution Size of Stock Dividends Small Stock Dividends (less than 20%) are valued at Market Value (current price) Large Stock Dividends (more than 25%) are valued at Par Value or Stated Value Accountants must use professional to decide if Stock Dividends between 20% and 25% are small or large Debit: Dividends Declaration of a Stock Dividend Credit: is an Owners account is NOT a liability because no cash is due 2

3 Distribution of Stock Dividend Debit: Credit: Common Stock Credit (for small stock dividends): Capital in Excess of Par Value too Capitalization of Earnings Capitalization means to record an amount on the balance sheet Common Stock Transfer from to Common Stock Stock dividends reduce account, increasing the of the Common Stock account So Stock Dividends are said to capitalize earnings because an amount of earnings is transferred from to Common Stock Stock Splits Stock increase the number of shares while decreasing the value of each share Stock Splits do NOT change the total value of the corporation Stock Splits do NOT require a journal entry 3

4 Example of a 2-for-1 stock split If an investor owned 100 shares at $50 per share, their would be worth $5,000 before the split After a 2-for-1 stock split, the investor would own 200 (2 x 100) shares at $25 per share ($50 2) still worth $5,000 after the split Purpose of Stock Splits Most companies retain some of their earnings to reinvest in the business, so corporations tend to grow As corporations grow, their stock prices generally over time Corporations use stock splits to occasionally reduce the price per share to make it easier for investors to buy and sell their shares of stock Similarities between Stock Splits and Stock Dividends Both Stock Dividends and Stock Splits increase the number of and reduce the price per share Consider a corporation with 1,000 shares of stock priced $10 per share 2-for-1 Stock Split would result in 2,000 shares valued at about $5 per share 100% Stock Dividend would result in 2,000 shares valued at about $5 per share 4

5 Difference between Stock Splits and Stock Dividends These two alternatives are used for different purposes Stock Dividends are used when earn profits but they have no available money to pay cash dividends Stock Splits are used to reduce the value per share, when the price of the stock has risen to a point that makes it difficult for investors to buy and sell shares DILUTION Neither Stock Dividends or Stock Splits affect the total value More shares just reduce the book value of each share Like cutting a pie into more pieces: each piece is just a little smaller, but the pie remains the same size But investors think that a stock split or stock dividend is a good, so the stock price may actually rise Stock Dividends COMPARISON Stock Splits NO impact on value Need Journal Entry Reduction in Increase Common Stock account NO impact on value NO Journal Entry NO effect on NO effect on Common Stock 5

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