A dividend is the share of corporate profits, distributed to eligible shareholders in the company, and the return that shareholders receive for their investment in the company.
Dividends are often part of a company’s strategy. However, it is not news that many companies do not pay dividends, but rather retain their earnings to invest back in the company.
This is because; they are under no obligation to repay shareholders using dividends. Nevertheless, although they are not obligated to pay dividends, the fact remains that dividends act as income for shareholders. Therefore, the company’s management must use the profits to satisfy its various stakeholders.
In the course of satisfying shareholders, equity shareholders receive first and are given first preference, because they face the highest amount of risk in the company. Dividend policies vary from one company to another.
This varying company dividend policy dictates the number of dividends paid out by the company to its shareholders and the frequency with which the dividends are paid out.
When a company makes a profit, the first thing they do is critically decide if it will retain the profits in the company (retained earnings on the balance sheet), or distribute the money to shareholders in the form of dividends. Whatever decision they make inadvertently affects the value of the enterprise.
The policy chosen must align with the company’s goals and maximize its value for its shareholders.
The board of directors in every company carries out the decision of the company’s dividend policy although the shareholders are the owners of the company.
The various dividend policies a company can follow include:
Regular dividend policy
This type of dividend policy allows the company to pay out dividends to its shareholders every year.
Under this policy, the company and the shareholders come to an agreement that if the company makes abnormal profits (very high profits), the excess profits will not be distributed to the shareholders but withheld by the company as retained earnings and invested back into the company.
On the other hand, if the company makes a loss, the shareholders will still be paid a dividend under this policy.
Stable dividend policy
Just like the term “stable”, the goal of the policy is a consistent and predictable dividend payout each year, which is what most investors seek.
This dividend must be laid whether the company’s earnings are up or down, and investors receive a dividend. This is because the percentage of profits paid out as dividends is fixed.
Irregular dividend policy
Here, the payment of dividends is irregular because the company is under no obligation to pay its shareholders and the board of directors can decide what to do with the profits.
If the company makes an abnormal profit in a certain year, the board of directors can decide to distribute it to the shareholders or not pay out any dividends at all and instead keep the profits for business expansion and future projects.
Residual Dividend Policy
This type of dividend policy is highly volatile, yet accepted by most investors. Under this policy, the company pays out what dividends remain after the company has paid for capital expenditures (CAPEX) and working capital.
No dividend policy
Under the no dividend policy, the company doesn’t distribute dividends to shareholders, whether the company makes a high profit or low. Any company under this policy retains its earnings and invests them back into the company for future growth.
Undoubtedly, companies that operate under a no dividend policy are constantly growing and expanding. The more these companies expand, the more the value of the company stock appreciates.
Conclusively, the dividends and dividend policy of a company are important factors that many investors need to consider before making certain investments.
Dividends can help investors earn a high return on their investment, and a company’s dividend payment policy is a reflection of its financial performance.Featured Image Source: InvestSmall
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