BFF1001 Lecture Notes - Lecture 9: Price–Earnings Ratio, Capital Asset Pricing Model, Dividend Policy
Week 9: Equity Instruments
Possible reasons why no dividend/no fixed dividend is paid:
Business earnings are poor and uncertain.
There is little if no residual cash flow available to shareholders after paying all
creditors, liabilities and obligations.
Business earnings are good and there is ample residual cash flow.
Rather than pay a dividend, residual cash flow is reinvested by purchasing
productive assets that will increase future earnings growth.
Business earnings are currently good but uncertain in the future.
Management is unwilling to commit to a fixed, high dividend payment
now given the uncertainty of sustaining it into the future.
Critical Thinking: Cheap or Expenisive?
It is common for investors without a financial education to characterise a share
as being cheap or expensive based purely on the share price.
Which share is cheaper?
Share A: $0.10 Share B: $100
With a financial education, we understand that the price by itself, is not a
measure of whether a share is cheap or expensive.
We compare the price paid, to what we receive in return for the price
paid.
i.e. the price paid is compared with the value of the share.
Which share is cheaper?
Share A: $0.10 price, $0.05 value Share B: $100 price, $200 value
Document Summary
Possible reasons why no dividend/no fixed dividend is paid: There is little if no residual cash flow available to shareholders after paying all creditors, liabilities and obligations. Business earnings are good and there is ample residual cash flow. Rather than pay a dividend, residual cash flow is reinvested by purchasing productive assets that will increase future earnings growth. Business earnings are currently good but uncertain in the future. Management is unwilling to commit to a fixed, high dividend payment now given the uncertainty of sustaining it into the future. It is common for investors without a financial education to characterise a share as being cheap or expensive based purely on the share price. With a financial education, we understand that the price by itself, is not a measure of whether a share is cheap or expensive. We compare the price paid, to what we receive in return for the price paid.
