You are on page 1of 21

Plausible reasons

Investor preference for Dividends 1. Self-control and Dividends 2. Aversion to regret and Dividends Information signaling Clientele effect Agency costs

Dubious reasons
Bird-in-hand fallacy Temporary excess cash

Payout Ratio

Funds Requirement Liquidity Access to External Sources of Financing Shareholder Preferences Difference in the cost of external equity and retained earnings Control Taxes

Stable Dividend Payout Ratio

Stable Dividends or steadily changing dividends

Dependence of Investor on Dividend Income

Prospects of earning of the firm

Steady Dividend Payment as desirable feature

1. 2. 3. 4. 5.

Investment decisions. External equity is more expensive than internal equity. Most promoters dislike to dilute their stake in equity. Difficulty in raising debt financing. With the help of the dividend decision of the firm, management conveys information about the prospects of the firm.

Dont pay dividend at the expense of positive NPV projects. 2. Minimize the need to sell external equity. 3. Define a target dividend payout ratio along with target debt-equity ratio. 4. Avoid dividend cuts.

Formula :~
Dt = Et - It Where; Dt = Dividends paid in year t Et = Earnings in year t It = Investment budget in year t

Formula :~
Dt = Pt * Et Where; Pt = Dividend payout ratio for the year t (Dt/ Et) Dt = Dividends paid in year t Et = Earnings in year t

John Linter in 1956 wrote about corporate dividend behaviour; 1. Firms set long-run payout ratios. 2. Managers are concerned more about change in the dividend than the absolute level of dividend. 3. Dividends are sticky in nature because managers are reluctant to effect dividend changes that may have to be reversed.

Dt = cr EPSt + (1 - c) D(t - 1) Where; Dt = Dividend per share for year t c = Adjustment rate r = target payout ratio EPSt = Earning per share for year t

The important company law pertaining to dividends are mentioned below; 1. Companies can pay only cash dividend except of bonus share. 2. Before dividend declaration a percentage of profit should be transferred to the reserves of the company. 3. Dividends cannot be declared for past years.

Board resolution
Shareholders approval

Record date
Dividend payment

Reason for issuing bonus shares; 1. To bring market price per share more popular. 2. To increase the number of outstanding shares. 3. To decline rate of dividend. 4. To increase Share capital of the company. 5. To improve the possibility of raising additional funds.

Regulation of bonus shares; 1. Bonus issue is made out of free reserves 2. Pending conversion into shares, FCDs, PCD, are can receive bonus shares. 3. Cannot be made in lieu of dividend payment. 4. Cannot be made on partly paid up shares. 5. The articles of association of the company should be authorize a bonus share.

Reduce par value of shares.

Increase number of shares.

Earning per share and market price per share

also decline.


1. 2.

Tender method

Open market purchase method

Efficient allocation of resources Positive signal Price stability Tax advantage Control Voluntary character Capital structure changes

Unfair advantage

Excessive payment

Generous dividend and bonus policy

More or less fixed dividend policy

Erratic dividend policy