Intro to Finance: Dividend Policy Stock Dividends vs Stock Splits

What This Is

Stock dividends and stock splits are two methods companies use to adjust their outstanding shares without changing their capital structure. A stock dividend is a distribution of additional shares to existing shareholders, while a stock split is a proportional increase in the number of shares outstanding. For example, if Apple Inc. declares a 2-for-1 stock split, a shareholder who owns 100 shares before the split will own 200 shares after the split, but the total value of their investment remains the same.

Key Formulas & Symbols

• Stock Dividend Ratio (SDR): The ratio of the number of shares distributed to the number of shares outstanding before the dividend. SDR = Number of shares distributed / Number of shares outstanding.
• Stock Split Ratio (SSR): The ratio of the number of shares outstanding after the split to the number of shares outstanding before the split. SSR = Number of shares outstanding after split / Number of shares outstanding before split.
• Market Value per Share (MVS): The market value of a share before and after the stock split or dividend. MVS = Total market value of shares / Number of shares outstanding.
• Book Value per Share (BVS): The book value of a share before and after the stock split or dividend. BVS = Total book value of shares / Number of shares outstanding.
• Price per Share (PPS): The price of a share before and after the stock split or dividend. PPS = Market value per share.
• Number of Shares Outstanding (NSO): The total number of shares outstanding before and after the stock split or dividend. NSO = Total shares outstanding.
• Total Market Value (TMV): The total market value of shares before and after the stock split or dividend. TMV = Number of shares outstanding × Market value per share.
• Total Book Value (TBV): The total book value of shares before and after the stock split or dividend. TBV = Number of shares outstanding × Book value per share.

Step-by-Step Calculation

1. Calculate the market value per share before the stock split or dividend:
   MVS = TMV / NSO
2. Calculate the number of shares outstanding after the stock split or dividend:
   NSO after split = NSO before split × SSR
3. Calculate the market value per share after the stock split or dividend:
   MVS after split = TMV / NSO after split
4. Compare the market value per share before and after the stock split or dividend to determine if the split has changed the company's capital structure.

Common Mistakes

• Mistake: Confusing a stock dividend with a stock split.
• Correction: A stock dividend is a distribution of additional shares to existing shareholders, while a stock split is a proportional increase in the number of shares outstanding.
• Mistake: Assuming a stock split changes the company's capital structure.
• Correction: A stock split only changes the number of shares outstanding, not the total market value or book value of the company.
• Mistake: Failing to calculate the market value per share before and after the stock split or dividend.
• Correction: The market value per share is a critical metric to calculate before and after a stock split or dividend to determine if the company's capital structure has changed.

Exam / CFA Tips

• Tip: Be careful with question wording – a stock dividend and a stock split may be used interchangeably, but they have different meanings.
• Tip: Focus on the market value per share before and after the stock split or dividend to determine if the company's capital structure has changed.
• Tip: A stock split is a proportional increase in the number of shares outstanding, while a stock dividend is a distribution of additional shares to existing shareholders.

Quick Practice Problem

Apple Inc. declares a 2-for-1 stock split. If the market value per share before the split is $100, what is the market value per share after the split?

Answer: $50 Explanation: The market value per share after the split is half the market value per share before the split, since the number of shares outstanding has doubled.

Last-Minute Cram Sheet

• ⚠️ A stock dividend is a distribution of additional shares to existing shareholders, while a stock split is a proportional increase in the number of shares outstanding.
• A stock split only changes the number of shares outstanding, not the total market value or book value of the company.
• The market value per share is a critical metric to calculate before and after a stock split or dividend.
• A 2-for-1 stock split doubles the number of shares outstanding, but halves the market value per share.
• ⚠️ A stock split does not change the company's capital structure.
• The total market value of shares remains the same before and after a stock split or dividend.
• ⚠️ A stock dividend and a stock split are not interchangeable terms.