FIN222 Lecture Notes - Lecture 11: Cross-Linked Polyethylene, Tax Refund, Payot
LECTURE
11.
DIVIDEND
POLICY
A firm can whether:
• Retain CFs for
future
investment
• Distribute CFs
by
repurchasing
shares or
paying
dividends
Payout policy: firm chooses between alternative ways to pay cash out to shareholders:
paying dividends, or repurchasing shares.
Cash
distributions
to
shareholders
Dividends
Regular Cash Dividend: dividends are paid twice a year in Australia (interim – final
dividend)
Special Dividend: one-off dividend payment a firm makes that is usually larger than a
regular dividend
for example: distribute excess cash from operation, sale of major asset or
business; as a way to alter a company’s capital structure.
Liquidating Dividend (aka return on capital): final dividend that is paid to
stockholders when a firm is liquidated.
Important dates
Share repurchases (aka
Buy back): the firm uses
cash to buy some of its
outstanding shares,
might be held in
corporate treasury or
can be resold later of the
company needs to raise
money.
Open market repurchases: most common way a firm repurchases its own shares by
buying them on the open market over time, similar to any investors.
Off-market buyback: a firm invites its shareholders to sell their shares back by:
• Equal-access buy-backs: firm offers to buy the same proportion of each
shareholder’s shares
• Selective buyback: firm offers to repurchase shares directly from only one or
some of its shareholders
Dividend vs.
Share
repurchases in
Alternative 1: Pay a
dividend with excess
cash
$20 million in excess cash
No debt; 10 million shares outstanding with a market price of $42
net profit after
tax
retain (retention
rate = 1 - payout
ratio)
invest in new
projects
increase cash
reserves
payout (payout
ratio)
`repurchase
shares pay dividends
perfect capital
market
Alternative 2: Share
repurchase
IMPACT
ON
DIVIDENDS
SHARE REPURCHASE
MV of the
firm
$42*10million – 20 million = $400 million
No of
shares
10 million
10 million - =
9,523,809.52
Price
Pex = $42 - $2 =
$40
Prep =
Assume one holding 2000 shares
DIVIDEND
SHARE
REPURCHASE
REPURCHASE +
SELL 95
SHARES
DIVIDEND +
BUY 100
SHARES
In cash
$2*2000 =
$4,000
0
$42*95 = $3990
0
In shares
$40*2000 =
$80,000
$42*2000 =
$84,000
$42*(2000-95) =
$80,010
$40*(2000+100) =
$84,000
TOTAL
$84,000
$84,000
$84,000
$84,000
What if firm repurchases shares but investor wants cash?
Investor could sell shares to raise cash (aka homemade dividend)
What if firm pays as dividend and you don’t want cash?
Investor could use the dividend to purchase additional shares
Implications:
In either case, the portfolio is worth $84,000. In perfect capital markets, investors are indifferent between the firm distributing funds via
dividends or share repurchase
By reinvesting dividends or selling shares, they can replicate either payout method on their own.
MM dividend
irrelevance
MM dividend irrelevance:
In perfect capital markets, holding fixed the investment policy of a firm, the firm’s
choice of dividend policy is irrelevant and does not affect the initial share price.
Document Summary
A firm can whether: retain cfs for future investment, distribute cfs by repurchasing shares or paying dividends. Buy back): the firm uses cash to buy some of its outstanding shares, might be held in corporate treasury or can be resold later of the company needs to raise money. Alternative 1: pay a dividend with excess cash. Payout policy: firm chooses between alternative ways to pay cash out to shareholders: paying dividends, or repurchasing shares. Regular cash dividend: dividends are paid twice a year in australia (interim final dividend) Special dividend: one-off dividend payment a firm makes that is usually larger than a regular dividend for example: distribute excess cash from operation, sale of major asset or business; as a way to alter a company"s capital structure. Liquidating dividend (aka return on capital): final dividend that is paid to stockholders when a firm is liquidated.
