Question 5 OR (a)

Stock dividend and its rationale

4 marks

Time to write: About 8 minutes

From an older CBCS paper

Question

Question 5 OR (a) · 4 marks

What is stock dividend? What is its rationale?

Reworded from the university paper; the task is the same. The original paper belongs to the University of Delhi. See DU's question bank.

Before you write

Read off the question and its marks

8 minfor 4 marks

Read from the question

What…?Two asks in one question: answer both.

What the paper leaves open

Stock dividend is examined here as a dividend-policy topic.

Write it in this order

Read; underline the asks; jot your points 1 min
1 Meaning and accounting effect 1½ marks 2 min
2 Rationale 2 marks 3 min
3 Limitation ½ mark 2 min

123

Easy marks

Step 1 opens with the meaning: a one-line definition, the quickest mark in it.

Short on time? Trim steps 1 and 2 evenly rather than skip one: each is capped at its own marks. End with step 3 in a line or two.

Try it first. About 8 minutes for 4 marks. Write it out, then open the solution.

Solution

Hover or tap a marked figure, like 72,000, to see how it is made and where else it appears.

Meaning. A stock dividend (bonus issue) is a dividend paid in additional shares instead of cash: a shareholder holding 100 shares, on a 10% stock dividend, receives 10 more. Retained earnings are capitalised: share capital rises and reserves and surplus fall by the same amount, so the total net worth does not change. Bonus shares may be issued only out of share premium and free reserves.

Rationale (why companies declare it)

Conserves cash for profitable investment opportunities.
Suits a cash shortage, or restrictions by lenders on cash dividends.
Larger future cash dividends: if the dividend per share is kept up after the bonus issue, shareholders receive more in total.
Better marketability: more, lower-priced shares improve liquidity in shareholders' hands.
Signal of growth: it has a favourable psychological effect, being read as a sign of the company's growth.

Limitation. In itself it does not add to shareholders' wealth or change their proportionate ownership; it only divides the company into more pieces, and it costs more to administer than a cash dividend.

Where the 4 marks sit

#	Component	Marks
1	Meaning and accounting effect	1.5
2	Rationale	2
3	Limitation	0.5
	Total	4

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