Lowe Tech Inc. has the following stockholders' equity on June 30, 2016:
Common Stock, $15 par (200,000 shares issued) ..........................$3,000,000
Paid-in Capital in Excess of Par ................................................2,000,000
Retained Earnings................................................................ 4,000,000
Total Stockholders' Equity .....................................................$9,000,000
For the past three years, Lowe Tech Inc. has paid dividends of $1.60 per share. On July 1, 2016, the board declared a 20 percent stock dividend instead of the $1.60 cash dividend. Before the end of the year and after the stock dividend distribution, however, the board declared a cash dividend of $1.33 per share.
In June 2016, before the stock dividend was declared, Rosa Dodd purchased 12,000 shares of Lowe Tech Inc. stock for $60 per share. Now she is concerned because she purchased the stock expecting a $1.60 per-share dividend, only to learn that the dividend has been reduced to $1.33 per share.
Answer the following questions concerning this investment:
1. What could have caused Lowe Tech's board of directors to declare a stock dividend rather than a cash dividend in July?
2. How did the book value of Rosa's stock prior to the stock dividend compare with its book value after the stock dividend?
3. Why does the market value of the stock ($60) when Rosa purchased her shares differ from its book value at that time?
4. How does the total amount of cash dividends on Rosa's stock differ between the $1.60 per share on Rosa's original holdings and the $1.33 per share on her holdings after the stock dividend?
5. Assume the market price of the stock fell to $50 after the stock dividend was distributed. Does this drop represent a loss to Rosa?
6. What do you think would have happened to the market price of the stock if the board had not reduced the amount of the cash dividend per share of stock?