Dividend PolicyA Dividend Policy of a company refers to the proposition by which a company distributes cash to its shareholders by means of either cash dividends or share repurchases. The dividend policy of a company affects the type of arrangement through which shareholders receive the return on their investment and is also an integral decision of a company’s board of directors. Payout decisions, along with financing decisions regarding the capital structure of the company, generally involve decision making by the board of directors and senior level of management and are closely watched by investors and analysts. It has been observed that, several factors influence the dividend policy of a company, which include favorable investment opportunities for the company, the volatility expected in its subsequent earnings, tax considerations, flotation costs, and contractual and legal restrictions. One of the argumentation’s in finance questions the impact, if any, on common stakeholders’ wealth of a company’s payout policy. There are three general ideologies on investor preference for dividends:
- The first is a theory by Modigliani & Miller (MM), which argues that given perfect markets dividend policy is irrelevant.
- The “Bird in hand” theory asserts that investors prefer to receive a dollar of dividends today rather than uncertain capital gains in the future.
- The third theory suggests that countries where dividends are taxed at relatively higher rates than capital gains, taxable investors will want companies to reinvest earnings in growth opportunities or repurchase shares rather than giving out dividends and receive more of the return in the form of capital gains.