 Hello and welcome to this session. This is Professor Farhad and this session we look at stock dividend. This topic is covered in financial accounting introductory course as well as intermediate accounting, the CPA exam as well. As always I would like to remind you to connect with me on LinkedIn if you haven't done so. YouTube is where you would need to subscribe. I have 1,600 plus accounting, auditing, finance and tax lectures. This is a list of all the courses that I cover. If you like my recording, please like them, share them, subscribe. If they benefit you, it means they might benefit other people. Connect with me on Instagram. On my website you will find additional resources such as PowerPoint, true, false, multiple choice, additional exercises. If you'd like to supplement your education and or pass your CPA exam to add those 10 per 15 points. So if you're a CPA candidate, I strongly suggest you take a look at my website. So what is the idea of stock dividend? Well, what's the idea of dividend in the first place? Let's review what dividend is. The company generate revenues and they incur expenses. And let's assume they generated a million dollars in revenues and 400,000 in expenses. They have a net income for this fictitious company of 600,000. Now what can we do with this net income? Well, the company can keep the whole thing. They can keep net income. They can keep it. And when they keep it, it usually sits. That's what they do first. It sits in retained earnings. So net income sits in retained earnings. And if you watch my cash dividend, they can pay some of that retained earning in cash. So they can pay some of the retained earning to the shareholders to reward them because dividend is paid out of profit to shareholders. So who gets the dividend? Shareholders or stockholders or the investors. Now what's gonna happen is that sometime the company wants to preserve their cash. So they have the cash, but they want to preserve it. But they still want to reward the shareholders and dividend, but they don't want to pay out cash. So what they do is this. They reduce this retained earning and they turn it, they turn it into additional stocks. So what they do, rather than giving you cash, what they do is they reduce retained earning. So they convert retained earning into stocks and they distribute the stocks to the existing shareholders. That's the idea behind retained earnings. So retained, that's the idea behind stock dividend. So they want to reward you, but they want to keep the cash. So it's a distribution of the corporation own shares towards the stockholders without receiving any payment in return. So what they do, they're gonna reduce retained earnings and they're gonna increase common stock. And we're gonna see how specifically. Now, why do they give you common stock rather than cash? Well, they can, it can be used to keep the market price of the stock affordable. If they issue more stocks, and this is what happened, if we have more stocks, usually the stock price goes down. It's, it makes the stock affordable. That's one reason it provide evidence of management confidence that the company is doing well. So when you pay stock dividend, it means the company is so sure that it's reinvesting in itself. So what they're doing is they're taking the retained earning and the converted retained earning into common stock. And we'll see this once we do the journal entry. That's the idea. The idea is we have a lot of confidence in our company. We're gonna take the earnings and give it to the shareholders. So they can enjoy more benefit into the future. Now, from a stock dividend perspective, we're gonna separate the dividend into two type of stock dividend. We're gonna have a small stock dividend and we're gonna have a large stock dividend. And the way we account for those stock dividend is different. Now, how do we know whether we have a large or a small stock dividend? Let's assume we have a company with the total shares right now, total shares of stocks equal to 100,000. Now, the company is going to issue a stock dividend. Let's assume they issue, they issue 10, less than 25%. What does it mean, less than 25%. Let's assume they issue an additional 15,000 new shares. So they're gonna have a stock dividend and as a result of the stock dividend, they're gonna have 15,000 new shares. Now, let's see if we take 15,000 divided by 100,000. So they're issuing 15% new shares. Well, if the new distribution is less than 25%, is this less than 25%? Yes, 15 is less than 25% of the previous outstanding shares. Then we call this a small stock dividend. Now, what does it change if it's a small stock dividend? If it's a small stock dividend, we're gonna take the new shares that we're issuing and we're gonna multiply the new share. Listen to me carefully. I'm gonna change colors here times the market price. So the new shares times the market price is what we reduce retained earnings, okay? Now, let's assume we have a company. They have total shares equal to 100,000, just like the prior example. And let's assume the company is issuing 40,000 new shares. Well, if we take 40,000 divided by 100,000, they're issuing 40% of the previously issued shares. That's greater than 25. If it's greater than 25, we call this a large stock dividend. Now, what difference does it make? Well, we're gonna take the new shares, which is the 40,000 shares, and we're gonna multiply it by, and this is where it makes a difference from an accounting perspective, the par value, and that's gonna give us retained earnings that we are going to reduce. So we're gonna reduce retained earnings by the number of shares times the par value if it's a large stock dividend. Now, why am I emphasizing this? Because on the exam and specifically on the CPA exam, they don't tell you. They don't tell you it's a small stock dividend. They don't tell you whether it's a small stock dividend or it's a large stock dividend. What they do is they tell you we issued 15,000 or they tell you we issued 40,000, and you have to find out whether that amount is above or below the 25 to determine whether you treat it as a small or as a large. Now they will never ask you about 25 exactly. Okay, so this way in case you're wondering, what about it's 25? Then the company make their own judgment. Okay, so that's that. So let's look at an example to record a small stock dividend then we'll look at a large stock dividend. Quest has 10,000 shares, $1 par value outstanding. So they have currently 10,000 shares. On December 31st, they declared a 10% stock dividend. Well, if we have 10,000 shares times we're gonna issuing 10%. So we're gonna be issuing new 1,000 shares when the stock was selling at 15. 15 is the market price of the share. The stock will be distributed to the stockholders January 20th. Let's prepare December 31st entry. Now again, we're gonna have a declaration date, a record date and a distribution date, not a payment date, distribution. Payment when we have a cash dividend. Distribution is when we distribute stocks. The first thing is how much do we debit retained earnings? How much do we reduce retained earnings? We have 1,000 new shares and we're gonna multiply it by $15. Why $15? Because this is a small stock dividend. We multiply it by the market price. Therefore, we're gonna capitalize retained earning. The technical term is capitalized. It means reduce retained earning by 1,000 new shares times 15, 15,000. Therefore, now you should be familiar with this. We reduce retained earning by 15,000. We credit common stock dividend to be distributed or distributable for the number of shares, number of shares times the par value and anything left is paid in capital in excess of par value. So now what we did on the declaration date, we basically decided to reduce retained earnings. So let's take a look at what happened on the distribution date. So this is the declaration date. On distribution date is January the 20th. What's gonna happen? We are going to debit this account and by the way, this account is an equity account. Actually, let me just show you what actually happened before I move in here. Sorry. Thank you, Dela. So what's gonna happen is retained earning goes down which is an equity account and common stock dividend to be distributable and paid in capital which also our equity account, they go up. So equity went up, equity went down. Basically we're still in the same position. So when we distribute the stock, we debit common stock dividend distributable which is equity and we actually increase common stock. So again, one equity account goes down, another equity account went up. So basically we're in the same position. Now let me show you that we're in the same position before and after. So we're gonna look at before dividend on the declaration date, on the distribution date or payment date, should be distribution date and after the dividend. We had common stock, $10 power value, 15,000 shares, 15,000 shares of common stock of which 10,000 are issued and outstanding. This is what we had. Common stock, we're gonna look at this account, we're gonna look at paid in capital. So let's see what happened. Before the dividend, we had 100,000 shares, paid in capital was 8,000, we had retained earning of 35, we have total stockholders' equity of 143. On the declaration date, we added 10,000 to the common stock dividend distributable which is this entry here and we added 5,000 to paid in capital and we removed this, we added 15,000 and we removed it from retained earnings. So now this retained earnings went up and those two account went down. On the distribution date, we took this 10,000, we reduced common stock to be distributed and we distributed the 10,000 and after the dividend is paid, now we have 110 in common stock, zero common stock dividend to be distributed, 13,000, which is eight plus five, 13,000 of paid in capital and retained earning went from 35 minus 15 equal to 20, we are back to 15,000. So notice before and after, before and after the distribution of stock dividend, total stockholders' equity is the same and this is true whether we have a small or a large stock dividend, whether we have a small or large, simply put, total equity will not change. Basically what we did is we took retained earning as I told you earlier and we converted retained earning into common stocks. Let's take a look at an example for a large stock dividend. Quest has 10,000 shares, $1 par value comments. On December 31st, they declared 30% stock dividend. Notice they did not tell you it's a large stock dividend but we know if it's more than 25, it's a large. Sometime what they tell you, they tell you only 3,000, 3,000 shares. Well, 3,000 out of 10,000, it's 30%. So you have to determine whether you are dealing with a small stock dividend or a large stock dividend, the stock will be distributed on January the 20th. First, how much do we debit retained earnings? We're issuing 3,000 shares times the par value, the par value is a dollar. Therefore, we debit retained earnings by 3,000. So let's take a look at it. So we capitalize retained earnings for the minimum amount required by law. Usually it's the number of shares times the par value. Therefore, we debit retained earnings, we reduce retained earnings by 3,000. We credit common stocks to be this, we credit common stock to be distributed 30,000 under the chair. Now, then when we distribute the stock, we're gonna debit common stock, distributable 20,000, we credit common stock. So again, the same concept, equity went down by 30,000, equity went up, then equity went down again, then equity went up when we issued the stock. So this account will be technically gone. So basically what we did is we converted retained earnings of 30,000, we converted 30,000 of retained earnings under 30,000 of common stock. Notice if you issued it at par, there is no additional paid in capital. The last thing we're gonna discuss in this topic is stock splits. And basically what's a stock split? Stock split, it's a distribution of additional shares of stock according to their percent ownership. So basically here, they're not giving you new shares. Stock split is taking the same amount of shares and breaking down the shares into additional shares. So simply put a picture of this. For example, you might have one stock, one stock, and has a $50 par value. Basically what they do, they take this stock and they give you one, two, three, four, five different stocks, five. So your one stock is broken down into five stocks now and the par value equal to 10. So let's look at it. If you have one stock times 50, equal to 50, and if you have five stocks times 10, it's equal to 50. So you're in the same position, except you have more shares. Now the good thing about stock split, there is no journal entry. So let's assume you have a $20 par value, 100,000 shares. Let's assume the company had two, four, one stock split. So they will double your shares. So now what they do is they took the 100,000 shares, they gave you 200,000 shares and the par value went from 20 to 10. Now the same thing would happen if your stock was trading at $30, now your stock will trade at 15, because if I double the shares, I'm gonna have the half the price. So whatever happened to the share. So here, if they gave you, if the price was $100, now each share is worth 20, because they gave you five. Therefore you divide the price by five. So simply put, think of a stock split as a pizza, and as a pizza pie, okay? This pizza pie, if I gave you, I said I'm gonna give you one pizza pie, what I'm gonna give you eight slices. It's the same thing, because this is one, let me use a different color. One, two, three, four, five, six, seven, eight. I can tell you, I'm gonna give you eight slices or one pizza pie, they're the same thing. I can also take those eight pies and split each pie into two slices, I'm sorry, split each slice into two pieces, and now you have 16 slices, 16 pieces, it's the same pizza, it's the same pizza. So whether I tell you it's one pie, eight slices or 16 slices, I can even take those 16 slices and break them down further, it's the same pizza pie. So this is how the stock split work. Let's take a look at the financial effect of dividend and stock split on the financial statements. First, let's take a look at cash dividend, which is a topic we looked at in the prior session. When we have a cash dividend, our asset will decrease because we paid cash. No change to liabilities, equity will decrease because we reduced retained earning, common stock is not affected, paid in capital is not affected, retained earnings affected. So on a cash dividend, what would happen is we end up debiting retained earnings, debiting retained earnings, which retained earnings goes down, which is equity goes down and crediting cash. So this is what happened in a cash stock split. We debit retained earning, we credit cash. First, we debit retained earning a credit, a payable, then debit the payable credit cash, but this is the final effect. So retained earning goes down cash, I'm sorry, cash goes down, I apologize. The investor's cash goes up, but the cash for the company goes down. Small stock split, notice assets, no change to asset. Asset is not affected, liabilities are not affected, even equity is not affected. All what happened is retained, let me just put it RE, retained earnings went down, common stock, and paid in capital went up by the same amount. So notice retained earnings went down and those two account went up. So this is, let me just put, this is retained earnings went down. Large stock dividend, same thing. Nothing happened to assets, nothing happened to liabilities, nothing even happened to equity. All what we did is retained earnings went down and common stock went up, that's all what happened. Stock split, no change to anything because all what you did is you took the same stocks and you broke them down into additional pieces. Now, if you like this recording, please like it, share it, put it in playlist. I strongly suggest you visit my website for additional resources, especially if you're studying for your CPA exam because that's gonna help you increase your score by 10 to 15 points. You study for your exam once in your lifetime, that's a lifetime investment, make sure it's worth it. Don't take any, don't shortchange yourself. Good luck in the next topic, we would look at preferred stock and stay safe during those coronavirus days.