Dividend is a form of payment made to shareholders by an organization; It’s a profit which is paid out to the company shareholders. When a profit is earned by the company, the profits are used again to invest for a better growth of the company for its future, or it can also be paid to the company shareholders in the form of dividends. Dividends are also paid to the shareholders in the form of cash or shares. The company must have sufficient funds in order to pay dividends to its shareholders. Dividends are generally paid out by a company only when the company make good profit and it’s been paid form its earnings.
Dividend policy is of great interest n today’s financial industries when the joint stock companies came into existences. Dividends can also be defined as “a distribution of company’s earnings which is decided by the board of directors to a class of its shareholders, dividend is also quoted as a percentage of the current market price. It is also known as dividend per share (DPS). Dividend can also be in a form of cash, stock or property.
The level of dividends also depends on the company’s dividend policy. Many large companies have a progressive dividend policy. They are usually paid after half year and full year financial results, even though some companies pay quarterly.
Below are the most important factors that influence the dividend payouts of a company;
- Stability of Earnings: Companies which have regular income formulate regular dividend policy than those companies having an uneven flow of income. This can be easily know by the earnings of the company.
- Liquidity of Cash: The main factor in the dividend decision of a company depends on the cash flow. The higher the funds the company earns is better for the company in order to pay high dividends to the investors. In order to pay dividends the company needs funds and therefore the availability of cash will be the main factor of the dividend policy.
- Extent of Shareholders: A company makes decision against the shareholders for the suspension of the dividend to its investors. On the other hand, a company having lots of shareholders are distributed forming high and low income group. This would also have difficulties in securing the assets, because of higher dividend.
- Taxation Policy: If a company pays high tax, not the earnings of the company would be affected but also the dividend would be decreased. Tax on dividends is waived by the government only up to a certain limit. This would in turn effect the capital growth of the company. Reduction in tax dividends reduces the value of all the tax payers. The capital gain tax is also likely to be below the shareholders tax rate. Shareholders may also prefer capital gains to dividends. Directors resolve the conflict between the conflict of interest between the shareholders of a company.
- Past Dividend Rates: When the company pays dividend to its shareholders, it has to review the rate of dividend paid to the shareholders in the previous years, The dividend rate should be should be equal or more to the past dividend rate.
- Ability to Borrow: Only large firms and well established firms can borrow funds from the capital market and other external sources. These companies should have a good payout ratio. And smaller firms who are not well established rely on internal sources, and they would also have to build good reserves by reducing the payout ratio.
- Legal constraints: There were some constraints in the payment of dividends make by the government as a measure to overcome the anti inflation. So the company must know the legal rules and the government policies before forming the dividend policy.
- Policy of Control: This is another main factor for the dividends. The control of the company is determined by the ordinary shares of the company. If the company wants to make investment they need funds. These funds should be obtained from equity capital, If they raise the equity capital, the new shareholders will invest in the company so the directors of the company have full control where they would not want to add any new shareholders to the company, and would announce a low dividend rate to its existing shareholders. The directors do not want to add new shareholders because they would not have any control and diversion on the policies of the management.
- Time for Payment of Dividend: Payment of dividends are planned in such a manner that there is no cash flow at the time of issuing dividends, as during the peak time of the company would require funds for urgent finances.
- Regularity and Stability in Dividend Payment: Companies maintain dividend equalization fund in order to pay regular dividends to its investors and also have a constant rate of dividends to most of its investors.
- Investment Opportunity: While the board of directors make dividend policy decisions, they should consider if there is any profitable project or not. If there is a project in which they have to invest, then they have to announce a lower dividend to its shareholders.
- Opportunity to Collect Funds: The management should think about if there is any source to collect the required funds if needed at a cheaper cost, if not they should not announce more dividends to the shareholders.
- Growth: A growth of a company is one of the major factor and plays an important role when dividends are issued to its shareholders. Growth can be measured in sales, market share and the profit of a company.