The shareholders of a company invest in the company due to several reasons. Some shareholders invest in a company for long-term goals.
These long-term goals are mainly realized in the form of capital gains that the shareholders will receive when they ultimately sell their shares.
However, shareholders with long-term goals may also be interested in the dividends of the company rather than just the capital gains.
Some shareholders, on the other hand, invest in the company for short-term goals. These short-term goals are mainly realized in the form of dividends that the shareholders receive on the earnings of the company.
While these shareholders can also benefit from capital gains in the short-term, these capital gains occur less often. They are lesser than the capital gains that shareholders with long-term goals will generally expect.
A company does not have control over the price of its shares in the stock market as the price is determined by external factors.
This means the company cannot dictate how much capital gain its shareholders will receive. However, the earnings of the company and the dividends that are paid by a company can be controlled by the company.
Mainly dividends are paid from the earnings of the company to its shareholders, in the form of cash dividends. However, in some circumstances, dividends may also be paid as scrip dividends alternatives.
Scrip Dividend Alternative
Script dividends are the dividends that a company pays to its shareholders in the form of a certificate.
The certificate allows the shareholders of a company the option to either receive their dividends in the form of cash or the form of new stock of the company.
The shareholders of the company can decide which option to avail. The shares offered in scrip dividends are based on the existing shares held by the shareholders and a reference price for the shares.
Scrip dividend issues are proposed by the management of the company and approved by the shareholders of the company in the company’s annual general meeting.
This means the shareholders also have control over the terms of scrip dividend alternatives. During the meeting, a reference price is also determined for the scrip issue.
This reference price is then used to determine how many shares will be given to the shareholders of the company instead of the cash dividends.
For example, a shareholder owns 1000 shares of a company, and the dividend per share declared by the company is $6.
The company also determined the reference price of the share to be $75. The company offers its shareholders a scrip issue alternative for their cash dividends.
If the shareholder chooses to opt for the scrip dividends shares alternative, then the shareholder will receive 80 (1000 shares x $6 dividend per share / $75 reference price) shares of the company.
Advantages
Scrip dividends can be beneficial for both the company and the shareholders. For companies, it allows them to pay dividends in an alternate form to cash dividends.
This allows them to keep their cash reserves up to a certain level while also meeting the demands of its shareholders for dividends.
This cash is then used in other projects of the company. For example, a company may offer a scrip dividend alternative to the shareholders of the company if they have an upcoming project in the next period and don’t want to deplete their cash reserves by paying dividends to its shareholders.
For shareholders, scrip dividend alternatives allow them to increase the number of shares they hold in the company free of charge.
By receiving these shares as scrip dividends, they don’t have to pay any transaction fees, such as stamp duty and commissions paid to brokers, as the company deals directly with the shareholders.
Scrip dividends can also have some tax benefits for shareholders.
Disadvantages
Scrip dividends can also have some disadvantages. For companies, scrip dividends result in a dilution of the market value of the shares of the company.
This can make the shares of the company unattractive for any potential investors. Furthermore, while the company maintains its cash reserves by not giving dividends to the shareholders in cash, the company also forgoes any cash that it could generate as capital if it had simply issued the shares to the public.
This means that if the company issues the shares to the general public instead of giving scrip dividends, they can generate capital from it.
For shareholders, while scrip dividends provide an alternative form of a dividend, it cannot completely replace cash dividends.
While the shareholders have the option to not choose scrip dividends, they can potentially lose a fraction that they own if other shareholders opt to receive shares instead.
Similarly, due to the dilution of share prices caused by scrip dividends, the shareholders may also receive lesser dividends than they would if they opted for cash dividends.
Conclusion
Companies compensate their shareholders for their investment and risks in the company by paying them dividends.
These dividends are mainly paid in cash. However, sometimes, these companies may also offer a scrip dividend alternative. Scrip dividend alternatives are offered in the form of a certificate.
This certificate gives the shareholders the option to receive their dividends in either cash form or the form of additional shares issued by the company.
Scrip dividend alternatives can have several advantages and disadvantages for both the company and its shareholders.
