Linda CD Ltd issued 500 000 shares for \($4\) each. After 5 years of record profits, the company had a cash balance of \($1\) 000 000, retained earnings of \($2\) 500 000 and share capital of \($2\) 000 000. The chief executive officer, Mandy Kang, is considering either a 10% cash dividend or a 10% share dividend with an assigned value of \($4.\) She asks you for the ‘before’ and ‘after’ effects of each option on cash, retained earnings and equity.
Reasoning
Both a cash dividend and a share dividend would reduce retained earnings. The cash dividend would reduce cash and equity. The share dividend would not reduce equity because it would increase share capital instead of reducing cash.