Financial ManagementTU Board 2023
Shareholders' equity account of Kathmandu Publishing Corporation (KPC) as on December 31, 2023 is given below: ParticularsAmount (Rs)Common stock (20,000 shares @ Rs100 par)2,000,000Additional paid…
10Shareholders' equity account of Kathmandu Publishing Corporation (KPC) as on December 31, 2023 is given below: ParticularsAmount (Rs)Common stock (20,000 shares @ Rs100 par)2,000,000Additional paid in capital1,000,000Retained earning1,500,000Total shareholders' equity4,500,000 The current market price of the stock is Rs 300 per share. a. Show the effect of 10 percent stock dividend on shareholders' equity account position. b. At what price common stock should be traded after declaration of 10 percent stock dividend in the absence of signaling effect? c. What would be effect on number of shares, market price per share and shareholders' equity position after 2-for-1 stock split?
Answer
a. Effect of 10% Stock Dividend on Shareholders' Equity
Step 1: Calculate the number of new shares issued
- Existing shares: 20,000
- Stock dividend rate: 10%
- New shares issued = 20,000 × 10% = 2,000 shares
Step 2: Determine the transfer from retained earnings to paid-in capital
- Par value per share: Rs 100
- Total par value of new shares = 2,000 × Rs 100 = Rs 200,000
- This amount is transferred from Retained Earnings to Common Stock (at par value).
Step 3: Calculate additional paid-in capital (APIC) from stock dividend
- Market price per share (before dividend): Rs 300
- Total market value of new shares = 2,000 × Rs 300 = Rs 600,000
- APIC from stock dividend = Market value – Par value = Rs 600,000 – Rs 200,000 = Rs 400,000
Step 4: Update the shareholders' equity account
| Particulars | Amount (Rs) |
|---|---|
| Common Stock (22,000 shares @ Rs 100) | 2,200,000 |
| Additional Paid-in Capital | 1,400,000 |
| Retained Earnings | 1,100,000 |
| Total Shareholders' Equity | 4,700,000 |
Explanation of changes:
- Retained Earnings decreases by Rs 200,000 (transferred to Common Stock).
- Common Stock increases by Rs 200,000 (new shares at par).
- Additional Paid-in Capital increases by Rs 400,000 (excess of market price over par).
b. Trading Price After 10% Stock Dividend (No Signaling Effect)
Key Principle:
- A stock dividend does not change the total market value of the company; it only reallocates equity between retained earnings and paid-in capital.
- Total market capitalization before dividend = 20,000 shares × Rs 300 = Rs 6,000,000
- Total market capitalization after dividend = 22,000 shares × New Price (P) = Rs 6,000,000
- New Price (P) = Rs 6,000,000 / 22,000 = Rs 272.73 per share
Conclusion: The stock should trade at approximately Rs 272.73 after the dividend declaration (assuming no signaling effect).
c. Effect of 2-for-1 Stock Split
Step 1: Calculate new number of shares
- Existing shares: 20,000
- Split ratio: 2-for-1
- New number of shares = 20,000 × 2 = 40,000 shares
Step 2: Adjust par value per share
- Original par value per share: Rs 100
- New par value per share = Rs 100 / 2 = Rs 50
Step 3: Recalculate shareholders' equity components
| Particulars | Before Split (Rs) | After Split (Rs) |
|---|---|---|
| Common Stock (40,000 shares @ Rs 50) | 2,000,000 (20,000 × Rs 100) | 2,000,000 (40,000 × Rs 50) |
| Additional Paid-in Capital | 1,000,000 | 1,000,000 |
| Retained Earnings | 1,500,000 | 1,500,000 |
| Total Shareholders' Equity | 4,500,000 | 4,500,000 |
Explanation:
- No change in total equity (Rs 4,500,000 remains the same).
- Par value per share is halved (from Rs 100 to Rs 50).
- Number of shares doubles (from 20,000 to 40,000).
Step 4: Adjust market price per share
- Original market price: Rs 300
- New market price = Rs 300 / 2 = Rs 150 (assuming no change in total market capitalization).
Final Position After 2-for-1 Split:
- Number of shares: 40,000
- Market price per share: Rs 150
- Total shareholders' equity: Rs 4,500,000 (unchanged)
Discussion
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