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DIVIDEND POLICY
The document discusses dividends, defining them as divisible profits distributed to shareholders according to share proportion. It outlines types of dividends and policies, including stable, regular, and irregular policies, while also addressing factors affecting these policies and various models such as the Walter, Gordon, and Modigliani & Miller models. Additionally, it highlights the relevance and irrelevance of dividend policy to firm value under different market conditions.
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DIVIDEND POLICY
- 1. Dr. Richa Singhal AssociateProfessor,EAFM S.S. Jain Subodh P.G.College, jaipur 1
- 2. CONTENT • WHAT ISDIVIDEND • TYPES OF DIVIDEND • DIVIDEND POLICY • TYPES OF DIVIDEND POLICY • SOUND DIVIDEND POLICY • FACTORS AFFECTING DIVIDEND POLICY • IMPORTANCE OF DIVIDEND POLICY • DIVIDEND MODELS • Walter Model • Gordon Model • Modigliani and Miller Model • Residual Theory of Dividends 2
- 3. 3 A Dividend maybe defined as divisible profits which are distributed amongst the members of a company in proportion to their shares in a manner as is prescribed by law. • Sufficient profits in the company • Recommendation of the Board of Directors. • An acceptance of the shareholders in the annual general meeting.
- 4. 4 Preference Dividend Equity Dividend InterimDividend Regular Dividend Cash Dividend Stock Dividend or Bonus Share Scrip or Bond dividend
- 5. Dividend Policy canbe defined as the plan of action adopted by its directors whenever the dividend decision is to be made. It determines the division of earnings between payout to shareholders and retained earnings. 5
- 6. 6 STABLE DIVIDEND POLICY REGULARDIVIDEND POLICY IRREGULAR DIVIDEND POLICY NO DIVIDEND POLICY
- 7. • Distribution ofDividend in cash • Initially Lower Dividend • Gradual Increase in Dividend • Stability • Dividend Out of Earned Profits 7
- 8. 8 Internal • Nature ofEarnings • Future funds requirements • Liquidity of funds • Shareholders Desire • Control motive External • General State of Economy • Access to Capital Market • Legal Restrictions • Contraclinald Restrictions • Government’s Economic and Tax Policies
- 9. 9 DEVELOP SHAREHOLDER’S TRUST INFLUENCEINSTITUTIONAL INVETORS FUTURE PROSPECTS EQUITY EVAUATION MARKET VALUE STATBILITY OF SHARES MARKET FOR PREFERENCE SHARES AND DEBENTURES DEGREE OF CONTROL RAISING OF SURPLUS FUNDS TAX ADVANTAGE
- 10. Dividend Policy isrelevant: • Walter Model • Gordon Model Dividend Policy is irrelevant: • Modigliani and Miller Model • Residual Theory of Dividends 10
- 11. Walter’s model isbased on the following assumptions: • Internal financing • Constant return and cost of capital • 100 per cent payout or retention • Constant EPS and DIV • Infinite time Optimum Payout Ratio • Growth Firms ( r > Ke) –Retain all earnings • Normal Firms ( r < Ke) –Distribute all earnings • Declining Firms ( r = Ke) –No effect 11
- 12. 12 P = D+ r (E-D) / Ke Ke Ke
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- 14. • No externalfinancing • Constant return, r • Constant opportunity cost of capital, k 14
- 15. Gordon’s model isbased on the following assumptions: • All-equity firm • No external financing • Constant return • Constant cost of capital • Perpetual earnings • No taxes • Constant retention • Cost of capital greater than growth rate 15
- 16. Where: P= Price pershare D= Expected dividend per share E= Earnings per share Ke = Cost of capital or capitalization rate B= retention ratio (1- payout ratio) Br = g = Growth rate (r * b) 16 P = D Ke - G
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- 18. • The constantdividend growth and earnings growth is a fallacy. • The investors will buy and hold the shares for an indefinite period of time is a false assumption. • The model ignores capital gains, allowance for corporate and personal taxation. • The diminishing marginal efficiency of investments is ignored. • The effect of change in the firm’s risk class and its effect on firm’s cost of capital is ignored. 18
- 19. Under a perfectmarket situation, The dividend policy of a firm is irrelevant It does not affect the value of the firm. They argue that the value of the firm depends on firm earnings which results from its investment policy. Thus, when investment decision of the firm is given, dividend decision is of no significance. ASSUMPTIONS:- • Perfect capital markets • No taxes • Fixed Investment policy • No risk • No external funds 19
- 20. • Po= D1+ P1 / 1 + Ke • P1= Po(1+Ke)-D1 • nPo= (n+m) P1-(1-X)/ I+Ke Po = Market price per share at the beginning of the period or prevailing market price of a share. D1= Dividend received at the end of the period P1= Market price at the end of the period Ke= Cost of equity capital n= no. of shares outstanding at the beginning m= no. of new shares to be issued I= total net profit 20
- 21. • No perfectmarket • Taxes with different rates • Presence of Flotation Costs • Uncertainty (future earnings and investment opportunities) 21
- 22. Residual Theory ofDividends One of the schools of thought, the residual theory, suggests that the dividend paid by a firm is viewed as a residual, i.e. the amount remaining or leftover after all acceptable investment opportunities have been considered and undertaken. It believes that external financing is not available when required by the firm. It states that dividend fluctuations do not change the perception of the shareholders when a company has profitable investment opportunities. 22
- 23.