Dividend Policy Flashcards
What are dividends?
Payments made by businesses to shareholders, distributing recent profits to owners.
What are the two types of dividends?
- Cash dividends * Stock buy-backs
What legal limits affect dividend payments?
Dividends can only be paid from accumulated realised profits less any accumulated realised losses.
What is the maximum legal dividend a company can pay?
The amount of the revenue reserves.
What is the Dividend Cover Ratio (DCR)?
DCR = Earnings for the year available for the dividends / Dividend announced for the year.
What does ‘cum dividend’ mean?
Share prices include accrued dividends payable.
What does ‘ex dividend’ mean?
Share prices exclude the accrued dividend.
What is the Ex-Dividend Date?
A period starting one business day prior to the record date, when a stock is sold without the right to receive the current dividend.
What is the formula for Dividend Per Share (DPS)?
DPS = Total Dividend / Outstanding Ordinary Shares.
How is Dividend Yield (DY) calculated?
DY = DPS / Share price, expressed as a percentage.
What is the Dividend Payout Ratio (DPR)?
DPR = DPS / EPS or Dividends Paid to Ordinary Shareholders / Net Profit.
What is the traditional view of dividend policy?
Shareholders prefer dividends now rather than reinvestment for future dividends, as they perceive dividends as more certain.
What does the modernist view (Miller and Modigliani) state about dividends?
In perfect markets, the pattern of dividends does not affect shareholder wealth; only investment projects do.
What is a homemade dividend?
A cash flow from selling part of a shareholder’s holding instead of receiving a dividend.
What is the Residual Theory of Dividends?
Dividends should be viewed as a residual amount after all acceptable investment opportunities have been undertaken.
What is the Dividend Irrelevance Theory (MM Theory)?
In a perfect world, a firm’s value is determined solely by the earning power and risk of its assets, not by how it splits earnings.
What assumptions does the Dividend Irrelevance Theory rely on?
- Capital markets are frictionless * No transaction costs * Efficiently priced securities * No taxes
What is the Dividend Relevance Theory?
There is a direct relationship between a firm’s dividend policy and its market value, supported by the bird-in-the-hand argument.
What is the bird-in-the-hand argument?
Investors view current dividends as less risky than future dividends, reducing uncertainty about future cash flows.
What is the counter-argument to the bird-in-the-hand fallacy?
- Cash flow risk influences dividend payments * Higher dividends do not reduce firm risk.
What is the significance of the Dividend Payment Timeline?
It illustrates the process and timing of dividend announcements and payments.
What are the factors determining the level of dividends?
- Maximizing shareholder wealth * Providing sufficient financing
Fill in the blank: Dividends may only be paid out of _______.
[accumulated profits]
What effect does a higher current dividend have on firm value?
Reduces uncertainty about future cash flows, reducing the cost of capital and increasing firm value.
What are the two main counter-arguments against the ‘bird-in-the-hand fallacy’?
- The riskiness of a firm’s cash flow influences its dividend payments but increases in dividends will not reduce the risk of the firm. * Firms facing greater uncertainty of future cash flow tend to adopt lower payout ratios.
Define a constant payout ratio dividend policy.
The firm pays a fixed percentage of earnings to the owners each period; dividends move up and down with earnings.
What is a regular dividend policy?
The firm pays a fixed-dollar dividend each period, increasing the regular dividend only after a sustainable increase in earnings.
Describe the low-regular-and-extra dividend policy.
A policy based on paying a low regular dividend, supplemented by an additional (‘extra’) dividend when earnings are higher than normal.
What is an extra dividend?
An additional dividend optionally paid by the firm when earnings are higher than normal or under unusual circumstances.
What is the clientele effect?
Different payout policies attract different types of investors but do not change the value of the firm.
How does the catering effect influence dividend policy?
Managers will try to cater to the wishes of investors, adjusting dividends based on investor demands over time.
What is information signalling in the context of dividends?
Dividends provide information about future earnings, affecting the stock price based on shareholder perceptions.
What does the agency cost theory suggest about dividends?
A firm that commits to paying dividends reassures shareholders that managers will not waste their money.
What are scrip dividends?
Involves the issue of shares instead of cash payments to shareholders, allowing them to receive additional shares.
What are share buybacks?
Occurs when a business buys its own shares, which may be cancelled or held for re-issue.
List reasons for share buybacks.
- Supporting the share price * Altering the capital structure * Defence against takeover * Returning surplus funds
What is a special dividend?
A larger, one-off dividend paid to all shareholders, similar to a normal dividend.
What is the residual theory of dividends?
Dividends should be viewed as the earnings left after all acceptable investment opportunities have been undertaken.
What do Miller and Modigliani argue regarding dividends?
They argue in favor of dividend irrelevance in a perfect world without market imperfections.
What do Gordon and Lintner advance in their theory regarding dividends?
They advance the theory of dividend relevance, supported by the uncertainty-reducing effect of dividends.
True or False: Empirical studies provide clear support for dividend relevance.
False.
What is the impact of dividend policy on stock value?
The actions of financial managers and stockholders tend to support the belief that dividend policy does affect stock value.
What is the definition of cum-dividend share prices?
Share prices that include the accrued dividend.
What is the definition of ex-dividend share prices?
Share prices that exclude the dividend.
Fill in the blank: The _______ effect suggests that higher taxes on dividends may lead some investors to prefer firms that retain more earnings.
[clientele]
