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Unit 9: Financial Management Decisions

verify this by looking at the cash fl ow statement of a company. A company may have profi t of Notes

` 400 million but the cash only increase by ` 190 million in a financial year. This is a concern to the
management as insufficient cash may mean the company is unable to distribute a dividend.

Other factors in addition to profit and cash flow may influence the dividend level. In some

countries, dividends are taxable. The higher the dividend, the higher the tax an investor needs
to pay. In such cases, high dividends are not desirable. If a company is expanding, it needs to

keep sufficient cash for its plans rather than having to go to the equity or debt market to raise
additional fi nance.
9.2.1 Types of Dividends
These dividend types are:

1. Cash dividend: The cash dividend is by far the most common of the dividend types used.
On the date of declaration, the board of directors resolves to pay a certain dividend amount
in cash to those investors holding the company’s stock on a specific date. The date of record

is the date on which dividends are assigned to the holders of the company’s stock. On the
date of payment, the company issues dividend payments.

Example: ABC International’s board of directors declares a cash dividend of ` 0.50 per
share on the company’s 2,000,000 outstanding shares, to be paid on June 1 to all shareholders of
record on April 1.
2. Stock dividend: A stock dividend is the issuance by a company of its common stock to
its common shareholders without any consideration. If the company issues less than 25
percent of the total number of previously outstanding shares, you treat the transaction as a
stock dividend. If the transaction is for a greater proportion of the previously outstanding
shares, then treat the transaction as a stock split. To record a stock dividend, transfer from
retained earnings to the capital stock and additional paid-in capital accounts an amount
equal to the fair value of the additional shares issued. The fair value of the additional
shares issued is based on their fair market value when the dividend is declared.

Example: R Ltd declares a stock dividend to its shareholders of 10,000 shares. The
fair value of the stock is ` 5.00, and its par value is ` 1. The amount of stock dividend will be
` 50,000.

3. Property dividend: A company may issue a non-monetary dividend to investors, rather
than making a cash or stock payment. You record this distribution at the fair market value
of the assets distributed. Since the fair market value is likely to vary somewhat from the
book value of the assets, the company will likely record the variance as a gain or loss.

4. Scrip dividend: A company may not have sufficient funds to issue dividends in the near
future, so instead it issues a scrip dividend, which is essentially a promissory note (which
may or may not include interest) to pay shareholders at a later date. This dividend creates
a note payable.

Example: XYZ Traders declares a ` 250,000 scrip dividend to its shareholders that has a
10 percent interest rate.

5. Liquidating dividend: When the board of directors wishes to return the capital originally
contributed by shareholders as a dividend, it is called a liquidating dividend, and may be
a precursor to shutting down the business. The accounting for a liquidating dividend is
similar to the entries for a cash dividend, except that the funds are considered to come from
the additional paid-in capital account.

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