Chapter 1: What is a Security? - D. Types of Dividends
A cash dividend is the most common form of dividend, and it is one that the test focuses on. A corporation will send out a cash payment in the form of a check directly to the stockholders. For those stockholders who have their stock held in the name of the brokerage firm, a check will be sent to the brokerage firm and the money will be credited to the investor’s account. Securities held in the name of the brokerage firm are said to be held in “street name.” To determine the amount that an investor will receive, simply multiply the amount of the dividend to be paid by the number of shares.
JPF pays a $.10 dividend to shareholders. An investor who owns 1,000 shares of JPF will receive $100:
1,000 shares x $.10 = $100.
A corporation that wants to reward its shareholders, but also wants to conserve cash for other business purposes, may elect to pay a stock dividend to their shareholders. With a stock dividend, each investor will receive an additional number of shares based on the number of shares that they own. The market price of the stock will decline after the stock dividend has been distributed to reflect that there are now more shares outstanding, but the total market value of the company will remain the same.
If HRT pays a 5% stock dividend to its shareholders, an investor with 500 shares will receive an additional 25 shares. This is determined by multiplying the number of shares owned by the amount of the dividend to be paid.
500 x 5% = 25
A corporation may send out to its shareholders samples of its products or portions of its property. This is the least likely way in which a corporation would pay a dividend, but it is a permissible dividend distribution.
A right is issued to existing shareholders by a corporation that wants to sell additional common shares to raise new capital. All common stockholders have a preemptive right to maintain the proportional ownership in the company. If the corporation were allowed to sell additional shares to the general public, the existing shareholders interest in the company would be diluted. As a result, any new offering of additional common shares first must be made to the existing shareholders. Common shareholders will receive a notice of their right to purchase the new shares. They will be offered the opportunity to purchase the new shares at a price that is below the current market value of the stock. This is known as the subscription price. The shareholder will have the right to purchase the new shares for 45 days.
Possible Outcomes for a Right
The shareholder may elect to purchase the additional shares. This is known as exercising the right. The investor sends in the rights as well as a check for the total purchase price to the rights agent and the additional shares are issued to the investor.
The investor may not want to purchase the additional shares and may elect to sell the rights to another investor. The investor who purchases the right will then have the opportunity to purchase the stock at the subscription price for the duration of the original 45-day period.
The right to purchase the additional shares will expire at the end of the 45-day period if no one has elected to purchase the shares. A right will only expire if the stock’s market price has fallen below the subscription price of the right. While market price of the stock is fluctuating during the 45-day period, the subscription price of the right remains fixed.
The particular terms of the rights will be printed on the right certificate and each share of outstanding stock will be issued one right. The terms will include: the subscription price, the final date for exercising the rights, the number of rights required to purchase additional shares, and the date that the new shares will be issued.
A corporation may retain a brokerage firm to purchase any shares that existing shareholders do not purchase. This is known as a standby underwriter. The brokerage firm will purchase the shares that were not bought by the existing shareholders and resell them to the investing public.