Instead of distributing cash dividends, companies can opt to issue stock dividends, which provide shareholders with additional shares of stock. This process represents a redistribution of equity rather than a cash payout. When a stock dividend is declared, it reduces retained earnings, similar to cash dividends, but instead of crediting cash, the company credits common stock and additional paid-in capital (APIC).
To calculate the stock dividend, the company uses the current market price of the stock, which is typically provided in the problem. Stock dividends are declared as a percentage of the outstanding common stock. For instance, a company might declare a 10% stock dividend on its existing shares. Small stock dividends, defined as those less than 20-25%, are the focus here.
For example, if a company has 150,000 shares of common stock outstanding with a par value of \(0.50 and declares a 10% stock dividend, the calculation begins by determining the number of additional shares to be issued. This is done by multiplying the total outstanding shares by the dividend percentage:
\[150,000 \text{ shares} \times 0.10 = 15,000 \text{ shares}\]
Next, to find the total dollar amount of the stock dividend, the number of new shares is multiplied by the current market price of the stock, which is \)25 in this case:
\[15,000 \text{ shares} \times 25 \text{ USD/share} = 375,000 \text{ USD}\]
The journal entry for this transaction involves reducing retained earnings by the total amount of the stock dividend, which is \(375,000. The common stock account is credited with the par value of the new shares, calculated as:
\[15,000 \text{ shares} \times 0.50 \text{ USD/share} = 7,500 \text{ USD}\]
The remaining amount is credited to APIC, calculated as:
\[375,000 \text{ USD} - 7,500 \text{ USD} = 367,500 \text{ USD}\]
Thus, the journal entry reflects a decrease in retained earnings by \)375,000, an increase in common stock by \$7,500, and an increase in APIC by \$367,500. This ensures that the accounting equation remains balanced, as the total equity remains unchanged, merely redistributed among the equity accounts.
In summary, stock dividends serve as a method for companies to reward shareholders without depleting cash reserves, while also maintaining the overall equity balance in the financial statements.
