Dividend Decisions: Definition, Types, Issues, Importance

The dividend decision is about how much profit will be distributed to shareholders. It must be chosen if all profits should be dispersed, a portion of earnings should be held in the firm, or a portion of profits should be retained in the business and the remainder distributed among shareholders.

What is a Dividend Decision?

Dividend decisions refer to financial decisions in which part of the profits are distributed among the shareholders/owners of the corporation. This type of financial decision is known as a dividend decision.  This means the company returns a profit to the stakeholders or the investors who have invested their capital in the company. Decisions are made to distribute all the profit amongst the investors or retain some of it. This can ultimately boost the wealth of stakeholders. 

Dividend Decisions Example

Imagine that a individual owns 100 shares of Company ABC, a specific company. The corporation will review and compute its gross earnings at the conclusion of the quarter. The Board of Directors will then analyze the overall revenue statistics and decide on a dividend amount based on per share following that quarter.

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Types of Dividend Decisions

Dividends are a way for corporations to give back to their shareholders in various ways. Although many of these are paid in cash, others do not. The following are some examples of dividends:

1. Cash Dividend

A cash dividend is a payment provided to shareholders as a result of the company’s present profits or profits over time. Cash dividends are dividends that are paid out in this manner. This is the most prevalent dividend distribution method.

The procedure that is followed in this case starts from the date of declaration. The Board of Directors considers and decides on the payment of dividends to shareholders who own the company’s stock on this day.

The dividend is then distributed to all shareholders who held the stock on the record date. Following that, dividend payments are made to investors on the payment date.

2. Property Dividend

A property dividend is an alternative to cash or stock dividends in which a corporation offers its shareholders a piece of real estate rather than cash or financial equivalents. A property dividend is the name for this type of payout.

If a firm does not want to pay its shareholders in shares or cash, it might pay a non-monetary dividend. The distribution should be recorded at the current market value of the assets, which may differ from the assets’ booking value.

This difference can result in a profit or loss for the company. By paying a property dividend, firms can sometimes change their reported or taxable revenue.

3. Stock Dividend

A stock dividend is a dividend paid to shareholders in the form of company stock rather than cash. Stock dividends are the name for these dividends.

In this case, the corporation issues some common stock without taking into account the interests of the general public. The stock dividend is defined as a share that is less than 25% of the previous one.

It is considered a stock split if the amount is greater than the prior, pending shares. As a result, the stakeholders receive additional stock in the company.

4. Liquidating Dividend 

Liquidating dividends are payments provided to shareholders during the partial or complete liquidation of a company. Liquidating dividends are such dividends.

It is termed to liquidate a dividend when the Board of Directors of a certain organization or company decides to refund the real amount of capital invested. This usually occurs when a business owner decides to close down his operation.

5. Scrip Dividend

Instead of dividends, scrip dividends are new shares of an issuer’s stock that are sent to shareholders. A scrip dividend is the name for this type of dividend.

If a corporation does not have enough funds to pay the dividend on a timely basis, it might issue a promissory note to pay it later. Interest rates may or may not be included.

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Importance of Dividend Decisions

Here are some reasons why deciding on a dividend is crucial:

1. Share price

Dividends have an impact on the stock price because they take money out of the company. In this case, the dividend decision is critical in preserving the share price. If shareholders own the stock as of the ex-dividend date, the share price may fall.

2. Maintaining balance

The allocation of shares to stakeholders and the company’s growth must be balanced. Dividend decisions also aid in striking a good balance between wealth maximization and long-term financing considerations.

3. Company’s reputation

If the dividends are lower, it may have an impact on the market value of the company. Dividend payments made on schedule demonstrate the company’s maturity and business confidence, which helps to improve its reputation. Pulling the dividends, on the other hand, may result in fewer investors remaining in your partnership.

4. Extra income

Besides the firm, these decisions are equally important for the investors too. Many investors believe that a dividend is a additional source of income. This can be even more important for retirees who hold shares in a specific investment.

5. Modernization of firm

A company’s growth and modernization might be boosted by the retained earnings of dividends.

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How do you Calculate Dividend Decisions?

Companies calculate dividends using various technical methods depending on their objectives. Here are a few common approaches:

Method of dividend yield

This is the best way for calculating dividends if a corporation wishes to grow its shareholder base through increasing market capitalization.

This method compares dividends to the price of the company’s stock. You can also improve investor satisfaction by adopting this strategy because you will receive a greater dividend rate, which will benefit the shareholders.

The corporation would establish a specific yield rate and use that to calculate the real payment amount.

Retention and growth rate

Certain industries, such as technology and those that rely heavily on infrastructure, do not prioritize dividend policy. Investors go here to invest in order to increase their capital appreciation.

Because dividend payments are low or nonexistent, they are based on retention and growth rate. The major goal of these businesses, however, is to maintain consistent growth.

Model of dividend discount and perpetuity

The value of any asset remains equal to the cash flows present value, according to a basic fundamental idea in finance. Companies that want to have a healthy valuation via boosting stock prices typically adopt this strategy.

When a company receives positive feedback, it attracts additional stakeholders and has a high percentage of retention and growth.

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What are the Issues in Dividend Decisions?

Many things can influence and contribute to dividend difficulties. Here are a few examples:

Type of firm

Companies with consistent earnings can have stronger dividend policies than those with erratic earnings. This can be a problem for both stakeholders and business owners.

Types and desires of shareholders

The dividend decision is frequently influenced by the types and desires of shareholders. If they are financially sound, you can manage them by providing dividends as needed. Even if they are financially poor, you must pay a dividend on a regular basis.

Company’s age

The old Corporation does not require a significant amount of money to stabilize itself and save for future development and growth, allowing it to pay dividends. New businesses, on the other hand, cannot afford to make such payments.

Taxation policy

The government’s tax policy might also cause problems when it comes to dividend decisions. This is because net earnings are influenced by taxation policy, which in turn influences dividend decisions.

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Frequently Asked Questions 

What is the correct time to pay dividends? 

Dividends can be paid at any time during the year. You can also play them at any point during the fiscal year after the profits have been calculated. Quarterly payments are also an option for some businesses.

What is the ideal distribution of the dividends to the shareholders?

A corporation must pay dividends based on the likelihood of a profitable investment. If you do not pay a sufficient number of dividends, your company will have to raise funds and capital.

How does dividend decision impact the company’s share prices?

To answer this question, you must look at the company’s dividend payment history. A corporation with consistent and accurate dividend payments can have a greater share price than one with inconsistent dividend payments. Furthermore, if a company has a consistent stream of earnings, it can increase the impact of dividend decisions and benefit from increasing share prices.

What are the effects of COVID-19 on the dividend policies?

When a company is doing well, it is simple to implement successful dividend policy and payments. If they are having financial difficulties, they will continue to make dividend payments. Companies, on the other hand, are slashing dividends and investing or keeping them in banks currently. As a result of COVID, businesses are focusing on security rather than profit.

Do stock dividends affect the equity of stakeholders?

No, stock dividends have no impact on shareholders’ equity. The equity of the stakeholders is unaffected by the firm’s assets or liabilities because the stock dividend is paid in common shares.

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