1. Dividend Policy Payout Dividends or use the money to Buy-Back Shares?
MSBC 5060 Chapter 19
Dividend Policy
Payout Dividends or use the money to Buy-Back Shares?

2. Dividend Types: Cash Dividend Stock Repurchase Stock Spilt
Four times a year
Reduces cash and Retained Earnings
Stock Repurchase
Company uses cash to buy back stock
Repurchased shares are accounted for as “treasury stock”
Not necessarily retained earning – Sell and asset or sell debt
Results in fewer shares, so (all else equal) greater EPS
Stock Spilt
Increases number of shares
Express as a ratio (2 for 1)
AAPL split 7 for 1 on June 9, 2014 (Why?)
Stock Dividend
Like a split – usually smaller
2% stock dividend  1 new share for every 50 owned

3. Dividend Procedure

4. Dividend Irrelevance Theory:
Without Taxes:
If a Dividend is paid
the stock price decreases
by the amount of the dividend.
If a dividend is not paid
and the cash is instead used to repurchase shares
the reduction in the number of shares
the result is in an increases price
which is equal to the dividend.

5. Example: Company has Earnings (NI) = $500,000
Number of Shares = 100,000
EPS = $5.00
Assume PE Ratio = 20x
PE includes current earnings, risk of earnings and NPVGO (expected growth)
Share Price given EPS = $5.00 x 20 = $100
Company also has $100,000 in Excess Cash
Excess Cash per Share = $100,000/100,000 = $1
Total Value Per share if dividend is paid = $100 + $1 = $101
Two Choices to pay Excess Cash to Shareholders:
Pay $1.00 per share dividend
Repurchase $100,000/$101 = 990 Shares

6. Repurchase $100,000/$101 = 990 Shares
Share Value before Repurchase = $101
EPS = $5.00
PE Ratio = 20x
Share Price given Earnings = $5 x 20 = $100
Excess Cash per Share = $100,000/100,000 = $1
Share price = $101
After Repurchase
Still have same current and expected earnings ($500,000)
Fewer Shares: 100,000 – 990 = 99,010 shares
So higher EPS = $500,000/99,010 = $5.05
Same PE Ratio = 20
Paying out Excess Cash does not change NPVGO
Share Value = $5.05 x 20 = $101
990 Shareholders have $101 in cash
99,010 Shareholders have share worth $101

7. Price Drop from Cash Dividend – MSFT
On November 15, 2004, MSFT paid a $3.08 dividend

8. Dividends vs. Repurchases 1984 to 2004
From the old edition of this text

9. Dividends vs. Repurchases 2004 to 2014
(Figure 19.4 Page 584)

10. So without Taxes
Dividends are the same as Repurchases
But there are taxes!
And dividends and capital gains (resulting from repurchases) are taxed differently
Capital Gains are taxed when realized
Dividends are taxed when paid
Also,
Signaling from changing dividends
Corporations buy-back stock when managers think it the stock is cheap and don’t when they think it is dear
Dividends vs Repurchases