1. Chapter 16 – Dividends and Dividend Policy  Learning Objectives  Understand the dividend paying process  Differentiate the types of dividends  Explain individual preferences and issues around different dividend policies  Illustrate the non wealth impact of a stock dividend  Develop arguments on dividend signaling  Explain DRIPS (Dividend reinvestment programs

2. Cash Dividends  Payments to owners of the company  Distribution is taxed (currently)  Decision to pay cash dividend by Board of Directors  Stipulates  Amount  Date of Record  Date of Payment  Some important issues when buying and selling stock  Settlement Date  Street Name, Beneficiary Owner, and Owner of Record

3. Cash Dividend  Example, Pepsi Dividend of Feb. 2004  Amount of dividend announced on Feb 5 th  Stock trades with dividend until Feb 25 th  Record date set on Feb 27 th  Actual Payment on Mar 10 th  If you buy stock before Feb 25 th you receive the cash dividend  If you buy stock after Feb 25 th original owner receives dividend  Price of stock falls on morning of Feb 26 th by size of the dividend

4. Cash Dividends  Regular Cash Dividend (routine payments)  Very predictable in time  Very predictable in amount  Extra or special dividends  One time payments not scheduled to be repeated in near future  Reward to owners during good performance  Stock Dividends – just paper no real value  Liquidating Dividends – final payment to owners

5. Dividend Policy  Choice on size of dividends, large yields versus small (zero) yields  Dividend Clientele  Widows and Orphans want large dividends – they rely on the dividend income  Tax avoiders – they want small or no dividends and take “profits” in capital gains at time of sale  Does it matter? Dividend Irrelevance Theory  Can undo any dividend policy to match needs  Works in world of no taxes  Complications in world of taxes  Alternative for company, keep money and reinvest in company

6. Dividend Policy  Reasons for Low-Payout Policy  Tax avoidance or postponement  Higher potential future returns  Firm avoids need for additional outside funds  Reasons for High-Payout Policy  Distribution of profits with low transaction costs  Convenience of direct deposit  Cash today versus uncertainty tomorrow

7. Selecting a Dividend Policy  From perspective of Firm  Payment should be maintainable in future with some variation in earnings  Payment should not be reduced (bad news signal)  Payment cannot include legal capital  Payment cannot violate bond covenants  From perspective of owner – dividend policy irrelevant? Individual select companies with current dividend policies that meet their need

8. Stock Splits and Stock Dividends  Paper Transactions of no value to owner  Trading a $20 bill for 2 $10 bills  Stock dividends are small stock splits  Follows trading patterns of cash dividends  Declaration date (size of split announced)  Date of record set by Board of Directors  Payment date set when new shares will be mailed  Buying after ex-date, new shares go to old shareholders so new owner gets “due bill”

9. Reasons for Stock Splits  Value comes from…  Preferred Trading Range – stocks trade better in $20 to $40 range  Signaling Hypothesis – strong past performance will continue  Increased Liquidity – more available shares and thus lower costs to transact (jury still out on this reason)  Economic debate remains on value of split

10. Reverse Splits  Reduces number of outstanding shares  Like trading 2 $10s for a $20  No apparent value  Perceived value  Stock price moves back into preferred trading range  Can avoid potential delisting of stock from ex- change  Potential reduction in liquidity?

11. Specialized Dividend Plans  Stock Repurchases  “Selective” cash dividend, owner decides if he/she wants dividend by selling stock  Must be for a business reason not just to avoid taxes  Not all plans are completed  35% never start  35% only partially completed  Stock repurchased  Treasury Stock – for future reissue  Treasury stock has no voting rights and cannot receive dividends (cash dividends)  DRIPs – Dividend Reinvestment Plans