Dividend and Payout Policy Flashcards
What are the steps to the payout decision?
Cashflows from operations
Cashflows from operations to equity investors after debt paid.
Cash available to return to stockholders after the firm chooses how much to reinvest.
Cash paid out to either buyback stocks or given as dividends.
What do managers not increases dividends till?
Managers do not increase dividends unless they are confident that dividend can be maintained
What are the advantages of stock repurchases instead of increasing dividends?
More flexible
Tax advantage
What are the three types of dividends?
Cash dividend
Stock dividend
Stock splits
What is a cash dividend?
What are the two types?
Payment of cash by the firm to its shareholders.
Regular dividend- A dividend that is expected to be paid consistently into the future
Special dividend- – A dividend that is not likely to be repeated
What is a stock dividend?
Distributions of additional shares to a firm’s stockholders
What are stock splits?
Issue of additional shares to firm’s stockholders
What is a dividend reinvestment plan (DRIP)?
A plan offered by a corporation that allows investors to reinvest their cash dividends by purchasing additional shares or fractional shares on the dividend payment date.
Imagine a company currently has 10 million shares outstanding selling at $60 per share and declares a three-for-two stock split. After the split, how many shares will be outstanding?
What stays the same?
10 mil × (3/2) = 15 mil shares outstanding
Market cap
What are the key dates of dividend policy?
Declaration Date – The date on which the corporation announces a dividend payment.
Ex-dividend Date – Without dividend. Buyer of a stock after the ex-dividend date does not receive the most recently declared dividend.
Record Date – Shareholders registered on this date will be the ones to receive the most recently declared dividend.
Payment Date – The date the dividend payment is actually sent to shareholders.
What would you expect to happen to the price of a share of stock on the day it goes ex-dividend?
The price should decrease by the amount of the dividend
What is meant by ex-dividend?
Describes a stock that is trading without the value of the next dividend payment.
Look at slide on stock price reaction to dividends
What happens to a company’s market cap after dividends are paid out?
The market cap falls
What is the argument for dividends over capital gains? (Idea that when you receive dividends, capital gains decreases as price of stock drops)
Dividends now are more certain than capital gains later. Hence dividends are more valuable than capital gains. Stocks that pay dividends will therefore be more highly valued than stocks that do not
What is a counterargument for dividends over capital gains?
The appropriate comparison should be between dividends today and price appreciation today (compare apple to apples). The stock price drops on the ex-dividend day
A firm buys back stock from its shareholders, what are the four ways to implement?
Open-market repurchase
Tender Offer
Dutch Auction
Private Negotiation (greenmail)
Imagine a firm has 100,000 shares outstanding, worth $1 million in total. If the firm buys back 10,000 shares at $10 each, how is shareholder wealth affected?
Share number decreases
Value of firms decreases
Price per share remains the same
What are the differences between stock repurchase and dividends in terms of the shareholders?
Stock repurchase has no capital loss, and the price of shares stay the same.
However, the value of your shares decreases as you have less of them
What is an open market repurchase?
firm purchases stock in the secondary market
What is a tender offer?
firm offers to buy back a stated number of shares on pre-specified terms (amount, price and time)
What is a dutch auction?
A share repurchase method in which the firm lists different prices at which it is prepared to buy shares, and shareholders in turn indicate how many shares they are willing to sell at each price
What is a private negotiation?
When a firm avoids a threat of takeover and removal of its management by a major shareholder by buying out the shareholder, often at a large premium over the current market price
What do managers try to avoid doing in terms of dividends?
Avoid reducing the dividend and maintain a smooth dividend stream
If the dividend is below or above the target, what do firms do?
Less than target: the dividend is increased gradually toward the target.
Above the target: the dividend usually is not cut immediately; it is often left alone
What is meant by sticky dividends?
Dividends don’t change too much
What is the MM dividend irrelevance proposition?
In a perfect capital market and ignore personal taxes, holding fixed the investment policy of a firm, the firm’s choice of dividend policy is irrelevant
What are the 3 implications of the MM dividend irrelevance proposition?
(a) There are no tax differences to investors between dividends and capital gains.
(b) If companies pay too much in cash, they can issue new stock, with no flotation costs or signaling consequences, to replace this cash.
(c) If companies pay too little in dividends, they do not use the excess cash for bad projects or acquisitions.
Look at slides on alternative payout policy
What are the three alternative dividends theories?
Dividends do not affect value
Dividends increase value
- Clientele effect
- Behavioural psychology
- Management incentive
Dividends reduce value
- Income vs. capital gain tax
What are the two factors driving dividend policy?
Inertia
Mee-too-ism
What is inertia?
Companies seem to hate to let of their past, when it comes to dividend policy
What is met-too-ism?
Companies want to behave like their peer group
