Dividends and Stock Splits

Dividends and stock splits are corporate actions that directly affect shareholders. Understanding the mechanics and timing of these events is critical for Series 7 representatives advising clients on equity investments.

Cash Dividends

Cash dividends are distributions of a company's earnings paid to shareholders in cash. The board of directors declares dividends—they are never guaranteed. Companies with stable earnings often pay regular quarterly dividends, while growth companies typically reinvest profits rather than distribute them.

The Dividend Timeline

Four key dates govern dividend distribution:

Ex-Dividend Date Rules

The ex-dividend date is typically one business day before the record date. This timing exists because of the T+1 settlement cycle—stock trades settle one business day after the trade date.

• Buy before ex-date → You receive the dividend
• Buy on or after ex-date → Seller receives the dividend

On the ex-dividend date, the stock price typically drops by approximately the dividend amount, reflecting that new buyers won't receive the upcoming payment.

Example: A stock trading at $50 declares a $1 dividend. On the ex-date, the stock would typically open around $49, adjusted down by the $1 dividend.

Stock Dividends

A stock dividend distributes additional shares instead of cash. If a company declares a 10% stock dividend, a shareholder with 100 shares receives 10 additional shares.

Key Point: Stock dividends don't change the total value of an investor's position—they simply receive more shares at a proportionally lower price.

Stock Dividend Price Adjustment

Adjusted Price = Original Price ÷ (1 + Dividend %)

For a 25% stock dividend on a $50 stock: $50 ÷ 1.25 = $40 adjusted price

Stock Splits

Stock splits increase (forward split) or decrease (reverse split) the number of outstanding shares.

Forward Splits

A forward split increases shares and decreases price proportionally. A 2-for-1 split doubles your shares while halving the price.

Why companies split: To make shares more affordable for retail investors and increase trading liquidity.

Reverse Splits

A reverse split decreases shares and increases price proportionally. A 1-for-10 reverse split converts 10 shares into 1 share at 10 times the price.

Why companies reverse split: To meet minimum stock price requirements for exchange listing or to appear more attractive to institutional investors.

Split Calculation Formula

New Shares = Old Shares × (Second Number ÷ First Number) New Price = Old Price × (First Number ÷ Second Number)

For a 3-for-2 split on 100 shares at $60:

• New shares: 100 × (2 ÷ 3) × 3/2 = 100 × 1.5 = 150 shares
• New price: $60 × (2 ÷ 3) = $40

Impact on Cost Basis

Both stock dividends and splits affect an investor's cost basis per share but not the total cost basis.

Example: An investor buys 100 shares at $80/share ($8,000 total). After a 2-for-1 split:

• Shares: 200
• Total cost basis: $8,000 (unchanged)
• Cost basis per share: $40 ($8,000 ÷ 200)

On the Exam

The Series 7 exam frequently tests:

• Identifying who receives a dividend based on purchase date relative to ex-date
• Calculating adjusted prices after stock dividends and splits
• Understanding that total position value doesn't change with splits/stock dividends
• Settlement timing and its impact on dividend eligibility (T+1)