Why use a stock dividend?

A stock dividend is the issuance by a corporation of its common stock to its common shareholders without any consideration. For example, when a company declares a 15% stock dividend, this means that every shareholder receives an additional 15 shares for every 100 shares he already owns.

A company usually issues a stock dividend when it does not have the cash available to issue a normal cash dividend, but still wants to give the appearance of having issued a payment to investors.

In reality, the total market value of a company does not change, just because a company has issued more shares, so the same market value is simply spread over more shares, which likely reduces the value of the shares to compensate for the increased number of shares. For example, if a company has a total market value of $10 million and it has 1 million shares outstanding, then each share should sell on the open market for $10. If the company then issues a 15% stock dividend, there are now 1,150,000 shares outstanding, but the market value of the entire firm has not changed. Thus, the market value per share after the stock dividend is now $10,000,000 / 1,150,000, or $8.70.

If a company's shares are selling for such a large amount on a per-share basis that it appears to be keeping investors from buying the stock, a large stock dividend might sufficiently dilute the market value per share that more investors would be interested in buying the stock. This might result in a small net increase in the market value per share, and so would be useful for investors. However, a high stock price is rarely an impediment to an investor who wants to buy stock.

A problem with a stock dividend is that it may use up the remaining amount of authorized shares. For example, the board of directors may have initially authorized 15 million shares, and 10 million shares are outstanding. If the company issues a 50% stock dividend, this increases the number of shares outstanding to 15 million shares. The board will now have to authorize more shares before the company can issue any additional stock.

In short, any advantages of using a stock dividend are minor, and so its use is not recommended.

Related Topics

Types of dividends
What are dividends payable?
What is an interim dividend?
What is a final dividend?
What is the accounting for a small stock dividend?