Corporation’s distribution of its own stock to its stockholders without the receipt of any payment., declared by a corporation’s directors, is a distribution of additional shares of the corporation’s own stock to its stockholders without the receipt of any payment in return. Stock dividends and cash dividends are different. A stock dividend does not reduce assets and equity but instead transfers a portion of equity from retained earnings to contributed capital.
Reasons for Stock Dividends
Stock dividends exist for at least two reasons. First, directors are said to use stock dividends to keep the market price of the stock affordable. For example, if a corporation continues to earn income but does not issue cash dividends, the price of its common stock likely increases. The price of such a stock may become so high that it discourages some investors from buying the stock (especially in lots of 100 and 1,000). When a corporation has a stock dividend, it increases the number of outstanding shares and lowers the per share stock price. Another reason for a stock dividend is to provide evidence of management’s confidence that the company is doing well and will continue to do well.
Accounting for Stock Dividends
A stock dividend affects the components of equity by transferring part of retained earnings to contributed capital accounts, sometimes described as capitalizing retained earnings. Accounting for a stock dividend depends on whether it is a small or large stock dividend.
Small Stock dividend
Stock dividend that is 25% or less of a corporation’s previously outstanding shares. is a distribution of 25% or less of previously outstanding shares. It is recorded by capitalizing retained earnings for an amount equal to the market value of the shares to be distributed.
Large Stock Dividend
Stock dividend that is more than 25% of the previously outstanding shares. is a distribution of more than 25% of previously outstanding shares. A large stock dividend is recorded by capitalizing retained earnings for the minimum amount required by state law governing the corporation. Most states require capitalizing retained earnings equal to the par or stated value of the stock.
To illustrate stock dividends, we use the equity section of Quest’s balance sheet shown in Exhibit 13.7 just before its declaration of a stock dividend on December 31.
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p. 517Recording a small stock dividend. Assume that Quest’s directors declare a 10% stock dividend on December 31. This stock dividend of 1,000 shares, computed as 10% of its 10,000 issued and outstanding shares, is to be distributed on January 20 to the stockholders of record on January 15. Since the market price of Quest’s stock on December 31 is $15 per share, this small stock dividend declaration is recorded as follows:
Point: Small stock dividends are recorded at market value.
The $10,000 credit in the declaration entry equals the par value of the shares and is recorded in Common Stock Dividend Distributable, an equity account. Its balance exists only until the shares are issued. The $5,000 credit equals the amount by which market value exceeds par value. This amount increases the Paid-In Capital in Excess of Par Value account in anticipation of the issuance of shares. In general, the balance sheet changes in three ways when a stock dividend is declared. First, the amount of equity attributed to common stock increases; for Quest, from $100,000 to $110,000 for 1,000 additional declared shares. Second, paid-in capital in excess of par increases by the excess of market value over par value for the declared shares. Third, retained earnings decreases, reflecting the transfer of amounts to both common stock and paid-in capital in excess of par. The stockholders’ equity of Quest is shown in Exhibit 13.8 after its 10% stock dividend is declared on December 31—the items impacted are in bold.
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Point: The term Distributable (not Payable) is used for stock dividends. A stock dividend is never a liability because it never reduces assets.
Point: The credit to Paid-In Capital in Excess of Par Value is recorded when the stock dividend is declared. This account is not affected when stock is later distributed.
No entry is made on the date of record for a stock dividend. On January 20, the date of payment, Quest distributes the new shares to stockholders and records this entry:
The combined effect of these stock dividend entries is to transfer (or capitalize) $15,000 of retained earnings to paid-in capital accounts. The amount of capitalized retained earnings equals the market value of the 1,000 issued shares ($15 × 1,000 shares). A stock dividend has no effect on the ownership percent of individual stockholders.
Point: A stock dividend does not affect assets.
Recording a large stock dividend.
A corporation capitalizes retained earnings equal to the minimum amount required by state law for a large stock dividend. For most states, this amount is the par or stated value of the newly issued shares. To illustrate, suppose Quest’s board declares a stock dividend of 30% instead of 10% on December 31. Since this dividend is more than 25%, it is treated as a large stock dividend. Thus, the par value of the 3,000 dividend shares is capitalized at the date of declaration with this entry:
Point: Large stock dividends are recorded at par or stated value.
This transaction decreases retained earnings and increases contributed capital by $30,000. On the date of payment the company debits Common Stock Dividend Distributable and credits Common Stock for $30,000. The effects from a large stock dividend on balance sheet accounts are similar to those for a small stock dividend except for the absence of any effect on paid-in capital in excess of par.
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