Overview of Dividend Decision
Dividend decision refers to the policy that the management formulates in regard to earnings for distribution as dividends among shareholders. Dividend decision determines the division of earnings between payments to shareholders and retained earnings .
The Dividend Decision, in Corporate finance, is a decision made by the directors of a company about the amount and timing of any cash payments made to the company’s stockholders. The Dividend Decision is an important part of the present day corporate world.
The Dividend decision is an important one for the firm as it may influence its capital structure and stock price. In addition, the Dividend decision may determine the amount of taxation that stockholders pay.
Factors influencing Dividend Decisions
There are certain issues that are taken into account by the directors while making the dividend decisions:
- Free Cash Flow
- Signaling of Information
- Clients of Dividends
Free Cash Flow Theory
The free cash flow theory is one of the prime factors of consideration when a dividend decision is taken. As per this theory the companies provide the shareholders with the money that is left after investing in all the projects that have a positive net present value.
Signaling of Information
It has been observed that the increase of the worth of stocks in the share market is directly proportional to the dividend information that is available in the market about the company. Whenever a company announces that it would provide more dividends to its shareholders, the price of the shares increases.
Clients of Dividends
While taking dividend decisions the directors have to be aware of the needs of the various types of shareholders as a particular type of distribution of shares may not be suitable for a certain group of shareholders.
It has been seen that the companies have been making decent profits and also reduced their expenditure by providing dividends to only a particular group of shareholders.
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Following are the different forms of Dividend :
Scrip Dividend– An unusual type of dividend involving the distribution of promissory notes that calls for some type of payment at a future date.
Bond Dividend– A type of liability dividend paid in the dividend payer’s bonds.
Property Dividend– A stockholder dividend paid in a form other than cash, scrip, or the firm’s own stock.
Cash Dividend– A dividend paid in cash to a company’s shareholders , normally out of the its current earnings or accumulated profits
Optional Dividend– Dividend which the shareholder can choose to take as either cash or stock.
Significance of dividend decision
The firm has to balance between the growth of the company and the distribution to the shareholders
It has a critical influence on the value of the firm
It has to also to strike a balance between the long term financing decision( company distributing dividend in the absence of any investment opportunity) and the wealth maximization
The market price gets affected if dividends paid are less.
Retained earnings helps the firm to concentrate on the growth, expansion and modernization of the firm
To sum up, it to a large extent affects the financial structure, flow of funds, corporate liquidity, stock prices, and growth of the company and investor’s satisfaction.
Factors influencing the dividend decision
Liquidity of funds
Stability of earnings
Financing policy of the firm
Dividend policy of competitive firms
Past dividend rates
Ability to borrow
Growth needs of the company
Policy of control
Corporate taxation policy
Tax position of shareholders
Effect of trade policy
Attitude of the investor group
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