Module ACC2007: Corporate Finance

Topic: Dividend Policy

Sabur Mollah, PhD Stockholm Business School, Sweden

After this lecture, students should be able to:

q Learn the basic concept of dividend policy.

q Figure out the standard cash dividend payment procedures and critical dates.

q Understand dividend stability.

q Compare between cash dividend and non-cash dividend (for example, stock dividend, stock split, and stock repurchase).

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Outline ●  Definition of Dividend Policy and Its forms

●  Procedural Aspects of Dividend Policy

●  Stability of Dividend Policy

●  Important Aspects of Non-cash Dividend

Sabur Mollah, Stockholm Business School 8/7/15

What is Dividend Policy?

●  Dividend policy is the decision to pay or not to pay.

●  “ Dividend policy determines the division of earnings between payments to shareholders and retained earnings”. - Weston and Bringham

Sabur Mollah, Stockholm Business School 8/7/15

Dividend Policies involve the decisions, whether-

–  To retain earnings for capital investment and other

purposes; or –  To distribute earnings in the form of dividend among

shareholders; or –  To retain some earnings and to distribute remaining

earnings to shareholders.

What Decision Involves in Dividend Policy?

Sabur Mollah, Stockholm Business School 8/7/15

Forms of Dividend

Cash  Distribu,ons  

Regular  Cash  Dividend  

Extra  Dividend/Special  Dividend  

Liquida,ng  Dividend  

Noncash  Distribu,ons  

Stock  Dividend  

Stock  Split  

Stock  Repurchase  

Dividend  Reinvestment  Plan  

Sabur Mollah, Stockholm Business School 8/7/15

Administrative Considerations: Procedural Aspects

Declaration Date – The date that the board of directors announces the amount and date of the next dividend.

Payment Date – The date when the corporation actually pays the declared dividend.

May  8   May  29   May  31   June  15  

Sabur Mollah, Stockholm Business School 8/7/15

Example: The board of directors met on May 8th to declare a dividend payable

to shareholders on June 15th to the shareholders of record on May 31st.

Administrative Considerations: Procedural Aspects

Record Date – The date, set by the board of directors when a dividend is declared, on which an

investor must be a shareholder of record to be entitled to the upcoming dividend.

May  8   May  29   May  31   June  15  

Sabur Mollah, Stockholm Business School 8/7/15

Administrative Considerations: Procedural Aspects

Ex-dividend Date – The first date on which a stock purchaser is no longer entitled to the recently

declared dividend.

The buyer and seller of the shares have several days to settle (T+2). The brokerage industry has a rule that new

shareholders are entitled to dividends only if they purchase the stock at least two business days prior to the record date.

May  8   May  29   May  31   June  15  

Sabur Mollah, Stockholm Business School 8/7/15

Dividend Stability

Dividends  begin  at  50%  of  earnings,  but  are  stable  and  increase  only  when  supported  by  growth  in  earnings.  

Dollars  Per  Share  

3  

4  

2  

1  

Earnings  per  share  

Dividends  per  share  

Time  

50%  dividend-­‐payout  rate  with  stability  

Sabur Mollah, Stockholm Business School 8/7/15

Stock Dividends and Stock Splits

Stock  Dividend  –  A  payment  of  addi,onal  shares  of  stock  to  shareholders.  OVen  used  in  place  of  or  in  

addi,on  to  a  cash  dividend.  

Sabur Mollah, Stockholm Business School 8/7/15

Example  -­‐  National plc has 400,000 shares of £5 par common stock outstanding. The company has £7 Million retained earnings. The pre-dividend market value per share is £40. The company decides to pay a 5% stock dividend.

Stock Dividends and Stock Splits

Stock  Split  –  An  increase  in  the  number  of  shares  outstanding  by  reducing  the  par  value  of  the  stock.  

Sabur Mollah, Stockholm Business School 8/7/15

Example  –  Assume Business Machine plc with 1,000,000 shares of £4 par common stock splits 2-for-1.  

Stock Repurchase

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Stock  Repurchase  –  The  purchase  of  its  own  stock.  It  is  also  known  as  buyback.  

Sabur Mollah, Stockholm Business School

Example  –  Levy  plc  has  made  a  profit  aVer  tax  as  £800,000 this year. The company decides to share  repurchase  with  half  of  its  profit.  Current earnings are £2 per share, and the equity currently sells for £31 per share. There are 400,000 shares outstanding.  

 

Reading List

●  Hillier, D., Clacher, I., Ross, S., Westerfield, R., and Jordan, B. (2011). Fundamentals of Corporate Finance. McGraw-Hill Education European Edition.

8/7/15 Sabur Mollah, Stockholm Business School