16

STOCK DIVIDENDS

capital. Had it not been for the uncertainty prevailing as to whether
stock dividends were taxable to the stockholders, these circumstances
would very likely have induced a reduction of cash dividends to a
minimum and the extensive capitalization of war profits in the form
of stock dividends. Until the decision in Eisner ¢. Macomber in
1920, however, there was no certainty that stock as well as cash
dividends were not taxable to individuals as income. ?
Up to 1920, therefore, though generally immaterial to the corporation
 whether surplus was capitalized or accumulated, it was far from
being so to large and influential shareholders who had reason to fear
an increase in surtaxes from such distribution. Moreover, while
capital requirements may impose certain limitations upon the amount
of cash dividends which can be distributed, these do not apply to
stock dividends which are limited only by the amount of the surplus.
In view of all of these conditions it is a plausible conclusion that up
to 1920 large stockholders favored the accumulation of surplus rather
than its distribution either in cash or stock dividends, despite the
provisions ‘of the revenue acts providing for the taxation of undistributed
 profits or gains.
The foregoing views are borne out by the results for the 2,971 corporations
 previously referred to. Of the reinvestment in the business
of over $2,000,000,000 from 1913 to 1919, inclusive, barely four hundred
 million, or about 20 per cent, were represented by stock dividends,
 the balance aggregating over one and three-quarters billion
dollars, representing increase in surplus from about January 1, 1913.
(Table 8.) Figures for the less biased sample of 566 corporations
show substantially similar ratios. (Table 10.)
This reinvestment policy of the seven years 1913-1919, combined
with the fact that comparatively little of that reinvestment was capitalized,
 left undistributed on the books of corporations as of January
1, 1920, an enormous surplus measured in terms of prior experience.
Based again on the results for 2,971 corporations, undistributed surplus
 had increased more than 214 times in the seven years from 1913
to 1919. (Table 7.) The same was also true of the results for a
more unbiased sample of 566 corporations. (Table 9.)
Owing to the demand for increased plant facilities resulting from the
war, it 1s also reasonable to presume that the great bulk of this surplus
 apart from investments in war loans was locked up in plant and
mventories and hence largely incapable of distribution except by way
of capitalizing the surplus. While a considerable amount of this surplus
 was lost in disastrous business depression beginning in 1920, the
recovery therefrom was at once rapid and id Large as the
apparent earnings of corporations paying stock dividends were from
1913 t0 1919 as a result of war conditions they appear to have been completely
 eclipsed by those of the same corporations from 1920 to 1926.
[n the latter seven years the total surplus accumulated by 2,971 corporations
 ageregated over five and one-half billion dollars as compared
 with less than four billion in the former, an increase of over 42
per cent. Already having on their books large undistributed surnluses,
 the effect of this large increase in profits was cumulative and

2 In Towne ». Eisner (245 U. 8. 418) Appendix 3, the Supine Court used language from which it might
be readily inferred that stock dividends were not income. But this case was not decided until 1918. Moreover,
 it was brought under the revenue act of 1913 and really involved the question of whether a stock dividend
 made in 1914 against a surplus earned prior to Jan. 1, 1913, was taxable to the stockholder. The
pourt decided that it was not.