Payout Policy Corporate Finance: BA (H) Economics,

Transcript:Payout Policy Corporate Finance: BA (H) Economics,:
Payout Policy Corporate Finance: BA (H) Economics, Sem 6 For HrC By- Neha Arya What Dividend/Payout policy means In addition to the regular budgeting and financing decisions, firms also face the decision of making dividend payments to its shareholders from time-to-time. This is known as the Payout/Dividend policy of the firm. It shows the trade-off between retained earnings and payment of cash and issuing new shares. Firms can return cash to their shareholders by paying a dividend or by repurchasing its shares (share repurchase/stock buyback – discussed in one of the lectures earlier). The key questions regarding dividend payouts are: 1. How do managers decide on the amount and form of the payout? 2. How does payout policy affect company value? How are dividends paid? A company’s Board of Directors decide the dividends to be paid by it to its shareholders. A dividend announcement states that dividend payments will be made to all stockholders who are registered on a “Record date”. Stocks are traded with dividend until 2 business days before the record date. After the record date they trade “ex dividend”. Most firms pay regular cash dividends periodically but at times, a one-off or special dividend may be paid as well. It is also to be noted that “stock dividends” are also announced by companies at times, instead of cash dividends. Share repurchase A company may repurchase its own stock from the market instead of paying cash dividends to its shareholders. The repurchased stock may either be kept in the company’s treasury or resold when the company needs funds. Share repurchase can be carried in many ways: 1. Company can announce its plan to buy its stock in open market via a Dutch auction (stating multiple prices it is willing to buyback stock and inviting offers from shareholders). 2. Company can offer to buy a fixed number of shares at a set price (that is generally 20% higher than current market value) 3. Direct negotiation with a major shareholder If say, a company has accumulated large amounts of unwanted cash or wishes to change its capital structure by replacing equity with debt. It will usually do so by repurchasing stock rather than by paying out large dividends. So, clearly dividends and stock repurchases have different uses; with repurchases being more volatile with respect of business cycles. How are dividend payments determined? Lintner’s Model: Lintner presented four “stylized facts” to