Question

When adjusting the conversion ratio for a nondilutive feature, what should be done when a stock dividend is distributed?

1) Divide the conversion ratio by the stock dividend amount
2) Multiply the conversion ratio by the stock dividend amount
3) Keep the conversion ratio the same
4) Adjust the conversion ratio based on market conditions

Answer 1

To maintain the nondilutive feature when a stock dividend is distributed, the conversion ratio must be multiplied by the stock dividend amount.

Step-by-step explanation:

When adjusting the conversion ratio for a nondilutive feature in response to a stock dividend, the correct action is to multiply the conversion ratio by the stock dividend amount. This adjustment ensures that the value of the convertibility feature of a bond or preferred stock remains constant after the stock dividend. If a stock pays a dividend of 75 cents a share, someone who owns 85 shares will receive a specific monetary amount, hence the need for proportional adjustment in conversion to maintain value.