Accounting, Terminology

Difference between Stock Splits and Stock Dividends

They are essentially the same. In both cases, each shareholder receives a certain number of new shares free of charge, whereby the stock price is reduced accordingly. The total shareholders' equity remains the same. Cash remains the same.

In the case of a stock split, each old share is split into a number of new shares with a reduced par value, leaving the total share capital unchanged.

In the case of a stock dividend, a number of new shares are received for each share owned. The new shares have the same par value as the old shares, whereby the total share capital increases proportionally with the size of the stock dividend. This is done in the accounts by transferring retained earnings to the share capital, which has implications for the ability of a firm to pay out cash dividends in the future (some debt convenents restrict the amount of cash dividends that can be paid out depending on the level of retained earnings).

By "voluntarily" doing a stock dividend and decreasing their retained earnings, companies "signal" that they are in good financial condition and still able to increase their cash dividends (i.e. impact of retained earnings is minor).


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