Dividends and payout policy Flashcards
What is the definition of a dividend?
A payment made out of a firm’s earnings to it’s owners, in the form of either cash or stock
What are the 4 different types of dividend in this course?
- Regular cash dividends
- Extra dividends
- Special dividends
- Liquidating dividends
What are regular cash dividends?
A cash payment made by a firm to its owners in the normal course of business
What are extra dividends?
Paid on top of normal dividend, may or may not be paid in the future, typically if a firm is performing particularly well
What are special dividends?
Similar to extra dividend other than being truly ONE-OFF for high-performance.
What are liquidating dividends?
All of the business are sold off, e.g. in the case of bankruptcy
what is the standard method of cash dividend payment?
- Declaration date (the date on which a resolution is passed by the board to pay a dividend)
- Ex-dividend date
- Date of record
- Date of payment
What is the ex-dividend date?
The date two business days before the date of record, establishing those individuals entitled to dividend
what is the date of record?
The date by which a holder must be on record to be designated to receive a dividend
How do we expect the share price to react when the equity goes ex-dividend?
We would expect the share price to go down by about the dividend amount when the equity goes ex-dividend
Why is determining the value of the actual share-price change difficult?
Because of the different tax rates and rules that apply for different buyers and different cash flows for different buyers
How is the share-price effected if the dividend per share at a given date is raised while the dividend per share at every other date is held constant?
The share price will rise
Why may dividend policy be irrelevant?
Any increase in dividend at some point in time is exactly offset by a decrease somewhere else, so the net effect once we account for time value is 0
What is homemade dividend policy?
The tailored dividend policy created by the individual investors who undo corporate dividend policy by reinvesting dividends or selling shares of equity
What real world factors favour low dividend policy?
- Taxes
- Flotation costs (e.g. transaction)
- Dividend restrictions
What real world factors favour high dividend policy?
- Desire for current income
- Information content of dividends and dividend signalling
- Agency costs
Behavioural finance
How do dividend preferences vary between different investors?
- Tax free or low paying investors prefer high dividends
- High tax paying investors prefer low dividends or no dividends
How is dividend policy structured?
It is optimised for the tax preference of it’s investor clientele
What is the dynamic clientele effect?
Ignoring transaction costs, investors can trade shares at the time of the dividend, so that non-tax investors receive the dividend that is non-tax investors need NOT hold the high dividend, paying stocks all the time it is necessary only that they hold them when the dividend is actually paid
Why do companies even pay dividends>
The decisions to pay dividends is driven by prevailing investor demand for dividend payers managers, cater to invest us by paying dividends when investors put a stock price or premium on payers, and by not paying when investors prefer nonpayers
What are share repurchases?
The purchase by corporation of its own shares of equity
How do share buybacks effect investor perception?
Positively, a share buyback improves EPS giving investors the perception of an improvement in EPS after the share buyback
Why do executives prefer share buybacks to dividend payments?
Because they boost the share price more typically
Why do investors like dividends from a long-term perspective?
A dividend is typically seen as a commitment to the shareholders as managers are typically quite hesitant to reduce the existing dividend
What do firms consider when deciding between a dividend payment and a share repurchase?
- Flexibility
- Executive comp
- Undervaluation
- Taxes (repurchases have a tax advantage)
What are the pros of paying dividends?
Dividends may attract institutional investors
- Share price usually increases with the announcement of a new or increased dividend
- Dividend absorb excess cash flow and may reduce the agency costs that arise from conflicts between management and shareholders
What are the cons of paying dividends?
Dividends are taxed
Dividends can reduce internal sources of financing
Dividend cuts are hard to make without adversely affecting the firm’s share price
What is dividend smoothing?
Dividend growth lags earnings growth as firms don’t increase or cut dividends in response to temporary earnings fluctuations
What is a stock dividend?
A payment made by a firm to its shareholders in the form of equity diluting the value of each share outstanding
What is a stock split?
An increase in a firm’s shares outstanding without any change in owners equity
What is a reverse split?
A stock split in which a firm’s number of shares outstanding is reduced
