Stock Dividend and Cash Dividend
On January 1, 2008, Cozumel Company had 100,000 shares of $0.50 par value common stock outstanding. The market value of Cozumel’s common stock was $18 per share. Cozumel’s Retained Earnings balance on January 1 was $460,000. During 2007, Cozumel had declared and paid cash dividends of $0.75 per share. Net income for 2008 is expected to be $130,000. Cozumel has a large loan from McGraw Bank; part of the loan agreement stipulates that Cozumel must maintain a minimum Retained Earnings balance of $350,000. Cozumel’s board of directors is debating whether to declare a stock dividend in addition to its $0.75 per share annual cash dividend. Three proposals have been presented:
(1) no stock dividend, (2) a 10% stock dividend, and (3) a 25% stock dividend.
Instructions: As a shareholder in Cozumel Company, which of the three proposals do you favor? Support your answer.