Can someone please give an explanation that why B is incorrect and C is correct? I got confused and could not understand the question properly.
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Hi. Lets talk about both the options:
Option B states that the total cost basis of the shares will decrease. This is not true- Total cost basis of an investment is the total amount of money that an investor has put into that investment. For eg: You have bought 100 shares of a company at a price of Rs.10 per share, so the total amount invested by you i.e your total cost basis is = 100×10=Rs.1000. Suppose, a company issues a 10% stock dividend (also known as bonus shares), you will receive additional 10 shares free of cost i.e without investing any additional money. So now you have 110 shares in total.
Here comes the main part now, observe carefully that by receiving these 10 shares, your cost basis has gone down, but your total cost basis is still the same i.e Rs.1000 as your investment is still Rs.1000, it has not changed.
Old cost basis= Rs. 10
New Cost basis= Total amount invested or total cost basis/ Total no. of shares
= 1000/110=9.09
Now you can see that as a result of the stock dividend, your cost basis has come down from Rs. 10 to Ts. 9.09. However, since you did not invest any additional money, the total cost basis is the same i.e Rs. 1000. Hence, we can conclude that, stock dividend results in the total cost basis remaining the same but reduces the cost basis of the share as illustrated above.
Option C states that the proportionate ownership position is the same as it was before implementation which is correct. When a company issues a stock dividend, the no. of outstanding shares increases but at the same time share price comes down, so the market cap or the value of the company remains the same. Hence, it means that there has been no effect on the ownership position of the company. Every investor has received additional shares free of cost in accordance with the proportion of the shares held by them. Your investment value is still worth the same amount as it was before the issue of stock dividend and therefore the proportionate ownership remains the same.
Hope you got it and if not please ask again. Thank you.
Ohh, okay got it. Thank you very much! Very well explained!
You are welcome!