What Influences Dividend Policy
From a recent post of mine, I stated that dividend decision or policy of a company relates to the determination of the percentage of earnings paid to equity holders as dividends, the profit retention policy of the firm which depends on the firms dividend payment ratio, the form the dividend payment would take as well as the appropriate time to distribute the dividends. Factors that influence dividend policy include the following:
(1) Investment Opportunities Investment opportunities are important determinants of dividend policy. A firm that has desirable investment alternatives available and has the potential for above normal growth will find it suitable to retain a portion of net income. This action creates the opportunity for low cost financing through the use of internal equity by th firm. A firm that has few investment opportunities may choose a high payout ratios.
(2) Liquidity Requirements The typical firm generates cash flows on a continuous basis. A growth firm will be able to invest it's profits and depreciation shielded funds quickly. This, despite profits a firm may not be in enough liquid position to justify paying anything other than normal dividends. A firm that is growing and had to expand its asset base would maintain a low dividend payment ratio.
(3) Stockholder Requirements The tax position of the owners of the corporation greatly influence their preference between capital gains and yield. Those in higher tax brackets would prefer to postpone current income for capital gains in future, while those in lower tax brackets would show a greater preference for current income. What policy a firm maintains would largely depend on the population of these groups and their influence on the firm.
(4) Desire for Control This is another important variable in the dividend policy of a corporation. In some corporations shareholders (especially in smaller firms) are averse to dilution of control. Such corporations seek to do all their equity financing internally which will imply a low dividend payment ratio.
(5) Access to the Capital Market A large and well-established firm with a record of profitablity and some stability of earnings can hav easy access to the capital markets unlike small, new firms. For such small firms, their ability to rais funds from the capital markets is restricted. They must therefore retain earnings to finance their operations.
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