Scrip Dividend Meaning
Scrip dividends, also known as liability dividends, are issued by the company to its shareholders in the form of a certificate instead of the cash dividend that provides a choice to its shareholders to get dividends at a later point of time, or they can take shares in place of dividends. Companies issue dividends when they have insufficient cash to pay as a dividend.
For example, a shareholder owns 1000 shares, and the company paid one share against 50 shares owned by a shareholder. Here the investor will get 20 shares as a scrip dividend.
How to Issue Scrip Dividend?
Let us discuss the process of issuing this dividend in detail –
- First of all, the board of directorsBoard Of DirectorsBoard of Directors (BOD) refers to a corporate body comprising a group of elected people who represent the interest of a company’s stockholders. The board forms the top layer of the hierarchy and focuses on ensuring that the company efficiently achieves its goals. read more will propose a scrip dividend.
- A shareholder will approve the proposed dividend in the annual general meeting. Then only it can be given to shareholders. In AGMAGMAGM stands for annual general meeting. It is an official gathering of the stockholders and directors of an incorporated company in every calendar year to ensure that there is 100 percent compliance concerning all the lawful requirements like preparation and presentation of its financial statements.read more, shareholders can modify the proposal presented by the board of directors.
- The AGM record date will be finalized.
- They will be issued to only those shareholders who will hold shares on the record date or whose name will appear in the company’s share register.
- The company will finalize the reference price, which is generally five days average of the stock’s closing price according to the stock exchange where stock is listed from the date of ex-dividend.
- The company will now issue sharesIssue SharesShares Issued refers to the number of shares distributed by a company to its shareholders, who range from the general public and insiders to institutional investors. They are recorded as owner's equity on the Company's balance sheet.read more to shareholders as scrip dividends as per the formula below.
- Shares will not be taxable at the time of receipt like in cash dividendCash DividendCash dividend is that portion of profit which is declared by the board of directors to be paid as dividends to the shareholders of the company in return to their investments done in the company. Such a dividend payment liability is then discharged by paying cash or through bank transfer.read more but will be at the time of sale as capital gain tax, which is generally lower than the dividend income tax.
Example of Scrip Dividend
If a shareholder holds 1000 shares and the dividend per share was $20 per share declared by the company and the reference price of the claim is $800 per share, then the shareholder will receive 25 shares under the scrip dividend scheme. How? Let us find out:
Solution:
Calculation of scrip dividend can be done as follows:
- No. of shares held at the record date of DividendsRecord Date Of DividendsThe date of record for dividends is the cut-off date decided by the top management for the investors to get registered as a stockholder in the company's books to get the dividend payment on their security holdings.read more = 1000 Shares
- Cash dividend per share = $20
- Reference price of share = $800
No. of Shares Under Scrip Dividend = 1000 Shares* $20/$800 = $20,000/$800 = 25 Shares
Advantages
Some of the advantages are as follows:
- The company does not require paying cash immediately or later if shareholders opt for taking shares, and the company can use this cash for capital investmentCapital InvestmentCapital Investment refers to any investments made into the business with the objective of enhancing the operations. It could be long term acquisition by the business such as real estates, machinery, industries, etc.read more.
- Shareholders can increase the shareholding without incurring any extra transaction cost.
- It will increase the company’s total share capitalTotal Share CapitalShare capital refers to the funds raised by an organization by issuing the company's initial public offerings, common shares or preference stocks to the public. It appears as the owner's or shareholders' equity on the corporate balance sheet's liability side.read more.
- Shareholders can take the tax advantageTax AdvantageTax Advantage are the types of investments or saving plans that benefit tax exemption, deferred tax, and other tax benefits. Examples include Government bonds, Annuities, Retirement Plans. read more if the dividend is in the form of shares.
- The share price will not change much in case of the issue of the scrip dividends.
- This type of dividend gives extra time to the company, which is the difference between the dividend declaration date and payment date.
Disadvantages
Some of the disadvantages are as follows:
- It is not a good sign for the company as investors and other stakeholders will think that the company has a cash flow issue.
- If shareholders are required to pay tax on dividends, then they have to sell some shares because, in this dividend, they do not receive cash.
- If the share price increases, the company has to pay an excess dividend compared to the dividend declared.
- There will be no growth in shareholders’ wealth because earning per shareEarning Per ShareEarnings Per Share (EPS) is a key financial metric that investors use to assess a company's performance and profitability before investing. It is calculated by dividing total earnings or total net income by the total number of outstanding shares. The higher the earnings per share (EPS), the more profitable the company is.read more and share price will decrease after the scrip dividend issue.
Important Points
Some of the essential points are as follows:
- It is one of the types of dividend in which dividend is paid in the form of shares rather than cash.
- Scrip dividend is not taxable at the time of receipt. However, it will be taxable at the time of sale of shares. It means capital gain tax will be applicable in scrip dividends in the case of dividend income tax.
- In this type of dividend company issues promissory notesPromissory NotesA promissory note is defined as a debt instrument in which the issuer of the note promises to pay a specified amount to a party on a particular date.read more to the shareholders.
- They create notes payableNotes PayableNotes Payable is a promissory note that records the borrower's written promise to the lender for paying up a certain amount, with interest, by a specified date. read more on which interest will be included or not.
Conclusion
A scrip dividend is issued by the company when the company wants to give a dividend but it does not have the cash for making payment of dividends, or it wants to invest the available cash for the growth of the business, capital expenditureCapital ExpenditureCapex or Capital Expenditure is the expense of the company's total purchases of assets during a given period determined by adding the net increase in factory, property, equipment, and depreciation expense during a fiscal year.read more, or any other purpose. But at the same time, it gives a negative sign to the market about the company. Investors do not want to invest in the company because they are not getting a cash dividend. They feel their money will get blocked as the company’s financial condition is not well or it does not have a cash crunch. Sometimes the company’s share price also reduce.
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