Nathan's Athletic Apparel has 1,800 shares of 6%, $100 par value preferred stock the company issued at the beginning of 2020. All remaining shares are common stock. The company was not able to pay dividends in 2020, but plans to pay dividends of $23,000 in 2021. Required: 1. & 2. How much of the $23,000 dividend will be paid to preferred stockholders and how much will be paid to common stockholders in 2021, assuming the preferred stock is cumulative? What if the preferred stock were noncumulative?

Answer: 1. $21,600 will be paid to Preferred Shares and $1,400 to Common Shares

2. Preferred Shareholders get $10,800 and Common Shareholders get $12,200.

Explanation:

1. When a Preferred Stock is termed as Cumulative, it means that the dividends on the stock must always be paid eventually. This means that if even 3 years go by without paying dividends, the dividends in each of those 3 years are accrued until they can be paid.

The company could not pay dividends in 2020 but have $23,000 to pay in 2021.

Bear in mind that Preferred Shareholders are paid first.

The Dividend owed to them is calculated as,

= 1,800 shares * $100 par value * 6% return

= 1,800 * 100 * 6%

= $10,800

In 2021, the Preferred Shares are entitled to 2 payments of $10,800 for years 2020 and 2021.

= 10,800 * 2

= $21,600

Subtracting that from the total dividends,

= 23,000 - 21,600

= $1,400

$21,600 will be paid to Preferred Shares and $1,400 to Common Shares.

2. If the Preferred stock is non-cumulative then it does not accrue.

In 2021 therefore Preferred Shares will get $10,800 and Common Shareholders will get,

= 23,000 - 10,800

= $12,200

Preferred Shareholders get $10,800 and Common Shareholders get $12,200.