C H
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Dividend Policy andRetained Earnings
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Figure 18-1Homemade dividends
PPT 18-1
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Table 18-1Earnings and dividends of selected Canadian corporations
PPT 18-2
Ten –Year
1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 AverageBank of Montreal Earnings Dividends Payout ratioDofasco Earnings Dividends Payout ratioInco Earnings Dividends Payout ratioStelco Earnings Dividends Payout ratioMacmillan Bloedel Earnings Dividends Payout ratioBCE Inc Earnings Dividends Payout ratioCognos Earnings Dividends Payout ratio
($0.39)$1.05
n.a.
$2.95$1.2843%
$7.11$0.8512%
$2.25$1.0044%
$2.21$0.8036%
$1.22$1.25
102%
($0.55)$0.00
0%
$2.10$1.0650%
($10.64)$1.28
n.a.
$4.18$1.0024%
($5.96)$0.75
n.a.
$0.37$0.80216%
$1.75$1.2773%
$0.21$0.00
0%
$2.32$1.0646%
($0.73)$0.80
n.a.
$0.74$1.00135%
($3.05)$0.00
n.a.
($0.98)$0.60
n.a.
$2.00$1.2965%
$0.14$0.00
0%
$2.3841.0645%
($2.96)$0.15
n.a.
($0.21)$0.85
n.a.
($1.76)$0.00
n.a.
($0.52)$0.60
n.a.
$2.10$1.3062%
($0.21)$0.00
0%
$2.59$1.1243%
$1.41$0.00
n.a.
$0.22$0.40182%
($0.62)$0.00
n.a.
$0.42$0.60143%
$1.031.33
129%
$0.10$0.00
0%
$3.01$1.2040%
$2.33$0.3013%
$0.15$0.40267%
$1.01$0.00
n.a.
$1.34$0.6045%
41.43$1.3494%
$0.29$0.00
0%
$3.45$1.3238%
$1.98$0.8040%
$1.82$0.4022%
$1.35$0.00
n.a.
$2.14$0.6028%
$1.12$1.36
121%
$0.58$0.00
0%
$4.21$1.4835%
$2.12$1.4870%
$1.17$0.4034%
$0.63$0.00
n.a.
$0.36$0.60167%
$1.54$1.3688%
$1.09$0.00
0%
$4.6941.6435%
$2.12$1.6435%
$0.25$0.40160%
$1.17$0.00
n.a.
($2.99)$0.30
n.a.
$2,00$1.3668%
$1.00$0.00
0%
$4.72$1.7637%
$2.04$1.7686%
($0.63)$0.10
n.a.
$1.04$0.03
3%
$0.54$0.20
n.a.
$2.50$1.3654%
$1.96$0.00
0%
37%
33%
84%
5%
46%
86%
0%
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Figure 18-2Corporate earnings and dividends (all industries)
-5
0
5
10
15
1991 1992 1993 1994 1995 1996 1997 1998
Source: Statistics Canada, Financial Statistics for Enterprises, Cataloque 61-008, Table 1.
$ bi
llion
s
Dividends Earnings
PPT 18-3
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Sample Calculation of Tax onIndividual Dividend Receipt
Dividend received . . . . . . . . . . . . . . . . . . . . . $1,000
Gross-up . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 250
Taxable amount. . . . . . . . . . . . . . . . . . . . . . . 1,250
Federal tax (at 29%) . . . . . . . . . . . . . . . . . . . 363
Federal tax credit (13 1/3% of $1,250) . . . . 167
Federal tax payable . . . . . . . . . . . . . . . . . . . . 196
Provincial tax payable (52% of $196) .. . . . . 102
Total taxes payable . . . . . . . . . . . . . . . . . . . . 298
Net dividend ($1,000 - $298) . . . . . . . . . . . . . 702
PPT 18-4
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DevelopmentStage I
DevelopmentStage I
GrowthStage II
GrowthStage II
ExpansionStage III
ExpansionStage III
MaturityStage IV
MaturityStage IV
No cash dividends Stock dividendsLow cash dividends
Stock dividendsLow to moderatecash dividends
Stock splits
Moderate to highcash dividends
Sales ($)
Development
Expansion
Maturity
Decline
Time
Growth
PPT 18-5
Figure 18-3Life cycle growth and dividend policy
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Table 18-4XYZ Corporation’s financial position before stock dividend
Capital Common stock (1,000,000 shares issued) . . $15,000,000accounts Retained earnings . . . . . . . . . . . 15,000,000
Net worth. . . . . . . . . . . . . . . $30,000,000
{
PPT 18-6
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{
Table 18-5XYZ Corporation’s financial position after stock dividend
Capital Common stock (1,100,000 shares issued) . $16,500,000accounts Retained earnings . . . . . . . . . . . . 13,500,000
Net worth. . . . . . . . . . . . . . . . $30,000,000
PPT 18-6
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Common stock (1 million shares issued) $15,000,000Retained earnings 15,000,000
$30,000,000
Common stock (2 million shares issued) $15,000,000Retained earnings 15,000,000
$30,000,000
Before
After
PPT 18-7
Table 18-6XYZ Corporation before and after stock split
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Inco 11.5 million nil
Toronto Dominion Bank 24 million nil
Nova 25 million 22.5 million
Seagram 24 million 19.2 million
Shares SharesCompany Originally Bid Bought
PPT 18-8
Table 18-8Stock repurchases announced in 1997
Source: Merrill Lynch & Co.
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Chapter 18 - Outline LT 18-1
• Dividends vs. Retained Earnings
• Other Factors Influencing Dividend Policy
• Life Cycle Growth and Dividends
• Cash and Stock Dividends
• Stock Splits
• Repurchase of Stock
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Dividends vs. Retained Earnings LT 18-2
• A company has a choice or decision regarding what to dowith its profits:
Pay them out to shareholders as dividends OR
Retain the earnings in the business
• There is disagreement as to whether investors preferdividends or retained earnings
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Factors Influencing Dividend Policy LT 18-3
• Investment opportunities and growth prospects withincompany
• Company’s stage in corporate life cycle
• Cash position of the Firm
• Access to capital markets
• Desire for control
• Legal and lender restrictions
• Tax position of shareholders
• Pressure to maintain stability in dividend
• Improve company’s image by increasing dividend
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Life Cycle Growth and Dividend Policy LT 18-4
Dividend policy is reflected in 4 stages:
Stage I - Development
no cash dividends
Stage II - Growth
stock dividends, low cash dividends
Stage III - Expansion
stock dividends, moderate cash dividends, stock splits
Stage IV - Maturity
moderate to high cash dividends
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Cash and Stock Dividends LT 18-5
• Cash dividends are usually paid quarterly
• Dividend Yield (%):
– annual dividend per share / current stock price
• A stock dividend is a distribution of additional shares ofstock
• There is no benefit from a stock dividend unless total cashdividends increase
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Stock Splits LT 18-6
• Similar to a stock dividend by increasing the total shares ofstock outstanding
• Market value of stock is unchanged initially
– ex, a 2-for-1 split will double the number of sharesoutstanding (with each share worth half as much asbefore)
• Primary purpose of a stock split is to lower the price into amore popular trading range
• Stock splits are used if the stock price gets too high
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Repurchase of Stock LT 18-7
• May be used as an alternative to paying a cash dividend
• Often utilized when a firm has excess cash
• Benefits to the shareholder are the same (in theory)
• Other reasons for repurchase:
– belief that the stock is selling at a low price
– may be used for employee stock options
– reduces the possibility of being taken over by anotherfirm