How They Work & When They Are Used
While normal dividends are never prorated, there are occasions when a prorated dividend is paid. Prorated dividends are announced as such in the dividend declaration but that doesn't always prevent investor confusion.
Prorated dividends can be confusing at first for two reasons. One, because they are relatively rare, and two, because they are handled somewhat differently from normal dividends. The reason they're handled differently is because all shareholders of the same class of stock who qualify for a dividend must be paid the entire dividend, regardless of how long they held the stock.
We'll see how prorated dividends are handled a bit further down the page but first we need to know what a prorated dividend is.
As applied to dividend payments, proration is the paying of a portion of a dividend rather than the full amount, that portion being proportional to the amount of time the stock was held by the owner in a specific dividend period.
For example, in a case of a quarterly dividend period (three months) a stockholder who held the stock for one month would receive one third of that quarter's dividend payment.
There are two primary circumstances under which a dividend is prorated and the process of paying a prorated dividend is essentially the same in both circumstances, the only difference being that in the second circumstance the process is used twice instead of only once.
One circumstance is in the case of a company's initial dividend. Not often, but occasionally, a company will go public with a regularly scheduled dividend. Rarely will a company go public on the first day of its dividend period, so the first regular dividend is paid proportionately, according to how many days the company was publicly traded before the first scheduled dividend payment.
As an example, Kinder Morgan, for their first dividend as a public company, paid a prorated dividend as announced in their press release on April 20, 2011:
"The board of directors declared a prorated dividend for the first quarter of $0.14 per share, payable on May 16, 2011, to shareholders of record as of May 2, 2011. The initial dividend is prorated from Feb. 16, 2011, the day that KMI closed its initial public offering. Based on a full quarter, the dividend amounts to $0.29 per share ($1.16 annualized)."
The second primary circumstance under which a dividend is sometimes prorated is when a company merges with or buys out another company with stock. When a company buys out another company with stock instead of cash, shareholders of the acquired company receive new shares of the acquiring company. The new shares are issued upon the closing of the acquisition, which rarely, if ever, occurs on the first day of the acquiring company's next dividend period. To be fair to the holders of the original shares, sometimes the acquiring company will pay a prorated dividend on the new shares instead of the full amount. But there's a complication -- as we already know, all outstanding shares of the same class of stock must be paid the same dividend.
In this circumstance, how does a company legally do that?
By splitting the amount of the regular dividend into two portions, paying the first portion before the new shares are issued, then paying the second portion after the new shares are issued.
For example, say a company buys out another company with newly issued shares of common stock and the transaction will close one month into the acquiring company's current quarterly dividend period. That means the new shares will have been outstanding only two months of the three month dividend period. Because paying the full dividend to the new shares would be unfair to the other shareholders, the company then splits the dividend into two parts, the first portion being one third of the quarterly dividend amount and the second portion being two thirds of the quarterly dividend amount.
The existing shareholders then receive both portions of the dividend while the new shareholders receive only the second portion.
But because it is illegal to pay one group of shareholders a different dividend amount than another group (of the same class of stock), the first portion must be paid before the acquisition closes, and therefore before the new shares are issued.
Paying two separate dividends requires two record dates and two ex-dates. (Separate payment dates are not necessary but are usually used.) Because the record date establishes that all issued & outstanding shares as of that date qualify for the full dividend payment, the first record date must be before the new shares are issued while the second record date must be after the new shares are issued.
In our example, the first record date is declared to be on a date before the new shares are issued, so all outstanding shares as of that date (the existing shares) qualify for the first portion of the regular quarterly dividend (one third, in this example). The second record date is declared to be on a date after the new shares are issued (after the closing of the acquisition), so all outstanding shares as of the second record date (previously existing shares and the newly issued shares) qualify for the second portion of the regular quarterly dividend (two thirds, in this example).
The net result is that the previously existing shares get two payments -- one payment of one-third the regular quarterly dividend and one payment of two-thirds the regular quarterly dividend, giving them the entire quarterly dividend, while the newly issued shares get one payment of two-thirds the regular quarterly dividend, which is proportional to the amount of time the new shares were outstanding during the regular dividend period.
Therefore all outstanding shares of the company's stock were fully represented by each dividend.
As a real-life example of a company doing exactly that, Health Care REIT split one of their regular quarterly dividends into two portions for the purpose of paying a proportional dividend on newly issued shares used to acquire another company. First they announced the first portion of the split dividend. At the same time, Windrose Medical Properties Trust, the company Health Care REIT was about to acquire, announced a prorated final dividend to their shareholders before the merger:
TOLEDO, Ohio & INDIANAPOLIS--(BUSINESS WIRE)--Dec. 11, 2006--Health Care REIT, Inc. (NYSE:HCN) and Windrose Medical Properties Trust (NYSE:WRS) announced today that the Board of Directors and Board of Trustees of the respective companies have declared prorated dividends on Health Care REIT's common stock and Windrose's common shares and Series A cumulative convertible preferred shares, as applicable. Dividends will be paid for the periods and using the methodology described below.
The record date for each company's dividend will be the close of business on the last business day prior to the merger effective time. The per share dividend amount payable by each company will be:
-- An amount equal to the company's most recent quarterly
-- Multiplied by the number of days elapsed since the last
dividend record date through and including the day
prior to the day on which merger effective time occurs;
-- Divided by the actual number of days in the calendar
quarter in which such dividend is declared.
The merger effective time is expected to occur on December 20, 2006. Closing of the merger is subject to the approval of common shareholders of Windrose and other closing conditions. Windrose has scheduled a shareholder meeting for December 14, 2006.
If the merger effective time occurs on December 20, 2006, the amount of the dividend for holders of common stock of Health Care REIT will be $0.3409 per share and the amount of the dividend for holders of common shares and Series A cumulative convertible preferred shares of Windrose will be $0.0996 and $0.2191, respectively. If the merger effective time occurs on December 20, 2006, the record date for each dividend will be December 19, 2006.
After the completion of the acquisition, Health Care REIT announced the second portion of the split dividend:
"TOLEDO, Ohio--(BUSINESS WIRE)--Jan. 22, 2007--Health Care REIT, Inc. (NYSE:HCN) announced today that its Board of Directors declared a prorated dividend of $0.2991 per share. This dividend, when combined with the prorated dividend of $0.3409 per share paid on December 28, 2006 in connection with the Windrose Medical Properties Trust merger, represents a total dividend of $0.64 per share for the quarter ended December 31, 2006."
The two prorated dividends paid to the previously existing Health Care REIT shares equaled 64 cents, which was the full quarterly dividend.
A few other examples of prorated dividends are Windstream Corporation in 2006, OMI Corporation in 2007, Columbia Equity Trust in 2007, and Targa Resources in 2010.
For a quick review:
1. Normal dividends are never prorated.
2. Prorated dividends are used only under specific
3. Prorated dividends will be announced as such in the
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A day on which the stock exchanges and the banks, agencies & depositories for securities in New York State are open for business. Any day on which the stock exchanges are open but the banks are closed is not counted as a business day for the purpose of calculating dividend ex-dates.
Conditional Dividend/Distribution A dividend or distribution contingent upon an event or circumstance that has not yet happened at the time of declaration.
Declaration Date The date a dividend is declared by the company. The amount of the dividend is also declared except in some cases of a conditional dividend.
An ex-dividend date that occurs one business day after the payment date.
The payment of cash or securities that are not part of a company's earnings.
A payment of earnings to shareholders.
A statement of money owed.
Ex-Dividend/Distribution Date The first day on which a stock trades without the right to receive the dividend/distribution.
A dividend/distribution amounting to less than 25% of a company's stock price.
The registered owner of a security on the Record Date.
The day the dividend payment
Record Date The day a buyer of a stock must be the registered owner (owner of record) to receive a dividend.
Special Dividend A dividend that is not regularly scheduled.
The requirement that securities transactions be settled in three business days. (Before June 7, 1995, securities transactions were settled in five business days.)