In CFA level 1 Reading 38, it says

Stock dividends are a non-cash form of dividends. With a stock dividend (also known as a bonus issue of shares), the company distributes additional shares (typically 2–10 percent of the shares then outstanding) of its common stock to shareholders instead of cash. Although the shareholder’s total cost basis remains the same, the cost per share held is reduced. For example, if a shareholder owns 100 shares with a purchase price of $10 per share, the total cost basis would be $1,000. After a 5 percent stock dividend, the shareholder would own 105 shares of stock at a total cost of $1,000. However, the cost per share would decline to $9.52 ($1,000/105).

Superficially, the stock dividend might seem an improvement on the cash dividend from both the shareholders’ and the company’s point of view. Each shareholder ends up with more shares, which did not have to be paid for, and the company did not have to spend any actual money issuing a dividend. Furthermore, stock dividends are generally not taxable to shareholders because a stock dividend merely divides the “pie” (the market value of shareholders’ equity) into smaller pieces. The stock dividend, however, does not affect the shareholder’s proportionate ownership in the company (because other shareholders receive the same proportionate increase in shares); nor does it change the value of each shareholder’s ownership position (because the increase in the number of shares held is accompanied by an offsetting decrease in earnings per share, and other measures of value per share, resulting from the greater number of shares outstanding).

When the company pays the same dividend rate on the new shares as it did on the old shares, a shareholder’s dividend income increases, but the company could have accomplished the same result by increasing the cash dividend.

In the last paragraph, did CFA meant to say "same dividend amount" and not "same dividend rate"? Because if it was at the same dividend rate, then the dividend amount would reduce proportionally since the new share price after stock dividend would be lower than before the stock dividend.

For example, using the example from paragraph one, the original share price was $10, say I own 100 shares, and if the payout ratio is say 5%, I get $50 of dividend.

After stock dividend, the share price is now $9.52, and I have 105 shares, at 5% dividend rate I would still get $5.

There is no increase in dividend since the "pie" slice is the same for everyone after stock dividend.

  • nice to see someone else chugging through this material, are you sitting the exam in Dec? – MD-Tech Oct 30 '15 at 10:55
  • @MD-Tech Yes, sitting for my exam in December? You too? Good luck. – Ben Oct 30 '15 at 19:25

"Dividend rate" is "dividend per share" over a specified time period, usually a year. So in the first example, if the company paid a $1/share dividend over the year before the stock dividend the shareholder would receive $100, while if it paid the $1/share the year after the stock dividend the shareholder would receive $105. The company could have achieved the same thing by paying total dividends of $1.05/share, which is what the last phrase of the last quoted paragraph is saying.

Here's an Investopedia page on dividend rate.

Also, what you're calling "payout ratio" is really "dividend yield". "Payout ratio" is how much of the company's net earnings are paid out in dividends.

That's all in the US, I could see the terms being used differently outside the US.

  • Okay thanks. When I saw the word rate, I automatically assumed it's based on some sort of percentage basis. Yeah I meant dividend yield, D/P, Payout ratio =D/EPS. Just got mixed up. – Ben Oct 30 '15 at 7:49

Your Answer

By clicking “Post Your Answer”, you agree to our terms of service, privacy policy and cookie policy

Not the answer you're looking for? Browse other questions tagged or ask your own question.