In the spring of 2014 the CFO of Placebo Pharmaceuticals, Inc. took a proposal t

Question

In the spring of 2014 the CFO of Placebo Pharmaceuticals, Inc. took a proposal to the firm's board of directors to distribute a noncash dividend to the firm s shareholders in the form of new shares of common stock. Specifically the CFO proposed that the company pay 0.03 shares of stock to the holders of each share of common stock such that the holder of 1,000 shares of stock would receive an additional 30 shares of common stock. a. If Placebo had total net income for the year of $10,000,000 and 21,000,000 shares of common stock outstanding before the stock dividend, what are the firm's earnings per share? b. After paying the stock dividend, what are the firm's earnings per share? c. If you owned 1,000 share of stock before the stock dividend, how many dollars of earnings did the firm earn on your 1,00 share investment? After the stock dividend is paid, how many dollars of earnings did the firm earn on your larger share holdings? What effect would you expect from the payment of the stock dividend on your total investment in the firm?

Explanation / Answer

a) Before EPS = $10M / 21M shares = $0.48 per share

b) After Stock Dividend, EPS = $10M / (Original 21M+ Stock Dividend 0.63M ) shares = $0.46 per share

c) Before earning on 1000 shares = $0.48 * 1000= $480

After earning on (1000 + 30 = 1030) Shares = $0.46 * 1030 = $474 + fractional difference $6 = $480

So, on stock dividend issue the quatity of shares increases and proportionately the EPS decreases and we have same earning on our total shareholding.

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