What Are Dividends?

A dividend is a distribution of a portion of a company'ꦦs profits to shareholders as a reward for their investment🌃s.

When a company issues a dividend to its 澳洲幸运5官方开奖结果体彩网:shareholders, the dividend can be paid either in cash or in additional shares of stock. The two types of dividends affect a company's 澳洲幸运5官方开奖结果体彩网:balance sheet in different ways.

Companies are not required to issue dividends to holders of its common stock. However, many pride themselves on paying consistent and/or increasing dividends every year.

Understanding Dividends

When most people think of dividends, they think of 澳洲幸运5官方开奖结果体彩网:cash dividends. However, companies can also issue 澳洲幸运5官方开奖结果体彩网:stock dividends.

When a company issues a stock💎 dividend, it distributes additional shares of stock to existing shareholders based on th♒e number of shares they already own.

Both types of dividend reduce 澳洲幸运5官方开奖结果体彩网:retained earnings and impact shaꦏreholders' equity. However, only cash dividends reduce cash on the balance sheet.

Retained Earnings

Retained earnings represent the cumulative net profit a company has after it pays dividends. They can be used to reinvest in the company and to pay down debt. 

While 澳洲幸运5官方开奖结果体彩网:net profit (also known as net earnings) is the amount of income tဣhat remains after accounting for the cost of doing𝕴 business in a given period, retained earnings accrue over the years.

Cash Dividends on the Balance Sheet

Cash dividends affect two areas on the balance sheet: the cash and shareholders' equity accounts. 

Investors will not find a separate balance sheet account for dividends that have been paid. However, after the dividend declaration and before the actual payment, the company records a 澳洲幸运5官方开奖结果体彩网:liability ꧃;to its shareholders ꦰin the dividend payable account.

Once the dividends are paid, the dividend payable is reversed and is no longer present on the liability side of the balance sheet. Investors will not see the liability account entries in the dividend payable account when the company's financial statements are released. 

The total value of the dividend decreases the company's retained earnings and its cash balance.

Example

Assume a company has $1 million in retained earnings and issues a $0.50 dividend for all 500,000 澳洲幸运5官方开奖结果体彩网:outstanding shares.

The total value of the dividend is $200,000:

$0.50 x 500,000 = $250,000

This amount is to b🐻e paid to shareholders. As a result, both cash and retained earnings are reduced by $250,000 leaving $750,000 in retained earnings.

The ultimate effect of cash dividends on the company's balance sheet is a reduction in cash for $250,000 on the asset side, and a reduction in retained earnings for $250,000 on the equity side.

Stock Dividends on the Balance Sheet

While cash dividends have a straightforward effect on the balance sꦉheet, the issuance of stock dividends is slightly more compl🧔icated.

Stock dividends have no impact on the cash position of a company or any other asset. They only impact the shareholders' equity section of the balance sheet.

Stock dividends redu𓂃ce retained earnings and reallocate the amount to the common stock account, thereby in🌠creasing it. 

A company's executive management might want to issue stock dividends to its shareholders if the company lacks cash on hand or if they want to decrease the value of existing shares, driving down the 澳洲幸运5官方开奖结果体彩网:price-to-earnings rati🔯o (P/E ratio) and other financial metrics.

The larger the dividend, the larger the impact on the share price. A 澳洲幸运5官方开奖结果体彩网:stock split may seem similar, but it is d🌌ifferent becಌause it divides existing shares, and a stock dividend hands out new shares.

When a stock dividend is declared, the total amount to be debited from retained earnings is calculated by multiplying the current 澳洲幸运5官方开奖结果体彩网:market price per share by the dividend percentage and by the number of shares out✤standing.

Example

Say that a company has 100,000 shares outstanding and wants to issue a🧜 10% dividend in the form of stock. If each share is currently worth $20 on the market, the total va🌱lue of the dividend would equal $200,000:

$20 x 10% x 100,000 = $200,000

The two entries would include a $200,000 debit to retained earnings and a $200,000 credit to the common stock account. The balance sheet wou♕ld t💮hus be balanced.

The Bottom Line

Cash and stock dividends are two types of dividends that companies may pay their shareholders. On the balance sheet, cash dividends reduce the cash accoun𒊎t and retained earnings.

Stock dividends have no effect on the cash account, but reduce retained earnings and i🌸ncrease the common stock ac♛count.