What Exactly Is a Stock Dividend?
A stock dividend is a dividend payment made to shareholders in the form of stock rather than cash. The stock dividend has the benefit of rewarding shareholders while not depleting the company’s cash reserves.
These stock distributions are typically made in the form of fractions paid per existing share. If a company declares a 5% stock dividend, it must provide 0.05 shares for every share owned by existing shareholders. The owner of 100 shares would receive five more shares.
KEY LESSONS
- A stock dividend is a dividend paid to shareholders in the form of new company stock.
- Dividends on stock are not taxed until the shares granted are sold by the owner.
- Stock dividends, like stock splits, dilute the share price, but unlike cash dividends, they have no effect on the company’s value
How a Stock Dividend Works
A stock dividend, also known as a “scrip dividend,” is a distribution of shares to existing shareholders rather than a cash dividend. This type of dividend is paid when a company wants to reward its shareholders but lacks cash or prefers to save cash for other investments.
For the investor, stock dividends have a tax advantage. The dividend, like any other stock share, is tax-free until the investor sells it.
A stock dividend may require that newly acquired shares not be sold for a set period of time. A stock dividend’s holding period typically begins the day after it is purchased.
Diluting Impact
A public company’s board may consent to a 5% equity dividend. As a result, shareholders who already own 20 shares of the corporation receive one more share. However, this results in a 5% increase in the company’s stock share pool, which lowers the value of current shares.
As a result, once the dividend is paid, an investor who previously held 100 shares of a corporation will really have 105 shares, but their combined market value stays the same. A stock dividend and a stock split are similar in this regard.
Example of a Stock Dividend
The number of shares owned by shareholders would rise by 5%, or one share for every 20 shares, if a corporation issued a 5% stock dividend. This would equate to an additional 50,000 shares in a firm with a million shares. Five extra shares would be given to a shareholder who already owns 100 shares of the corporation.
A stock dividend, in contrast to a cash dividend, does not raise the company’s worth. The company would be worth $10 million if shares were priced at $10 each. The value of the stock will not change following the stock dividend, however to reflect the dividend payment, the share price will drop to $9.50.
Why Do Companies Issue Stock Dividends?
If a corporation has a finite amount of liquid cash reserves, it may decide to distribute stock as a dividend. If it wants to protect its current cash flow, it can potentially decide to declare a stock dividend. A stock dividend might be profitable for the owners even though it actually reduces the value of the outstanding shares because it increases the stock’s total supply.
Difference Between a Stock Dividend and a Cash Dividend
A cash dividend is paid out as cash, as opposed to a stock dividend, which is paid out in the form of business shares. The owner of 100 shares in a business with a 7% yearly stock dividend would be entitled to 7 more shares. The owner of 100 shares would be entitled to a total of $70 in dividends per year if the corporation, on the other hand, paid a $0.70 yearly cash dividend per share.