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DIVIDEND POLICY

DIVIDEND POLICY. TRADITIONAL MODEL (GRAHAM & DODD) Stock Market places more weight on dividends than on retained earnings. Weight attached to Dividends is equal to 4 times the weight attached to retained earnings. DIVIDEND POLICY. TRADITIONAL MODEL( CONTD):- P = m ( D + D + R )

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DIVIDEND POLICY

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  1. DIVIDEND POLICY TRADITIONAL MODEL (GRAHAM & DODD) • Stock Market places more weight on dividends than on retained earnings. • Weight attached to Dividends is equal to 4 times the weight attached to retained earnings.

  2. DIVIDEND POLICY TRADITIONAL MODEL( CONTD):- P = m ( D + D + R ) 3 = m 4D + mR 3 3 WHERE m = A MULTIPLIER D = Dividend per share R = Retained earnings. EARNINGS= D + R P = market price per share

  3. DIVIDEND POLICY TRADITIONAL MODEL:- FINDINGS:- A LIBERAL PAY OUT POLICY HAS A FAVOURABLE IMPACT ON THE STOCK PRICE.

  4. DIVIDEND POLICY WALTER MODEL:- P = D + (E – D) r/k k P = market price per share D =dividend per share E = earnings per share R = rate of return on investments K = cost of capital

  5. DIVIDEND POLICY FINDINGS under Walter model: • When r > k, price per share increases as the dividend payout ratio decreases. Optimal Payout ratio for a Growth firm ( r > k) is NIL • WHEN R = K, price per share does not vary with changes in Dividend Payout ratio. Optimal Payout Ratio for a normal firm( r = k) is IRRELEVANT

  6. DIVIDEND POLICY FINDINGS UNDER WALTER MODEL:- • When r < k , price per share increases as the Dividend Payout Ratio increases. Optimum Payout Ratio for a Declining firm ( r < k) is 100%

  7. DIVIDEND POLICY GORDON MODEL:- Pc = Ye ( 1 – b) k - b r Pc = Price per share at the beginning of the year Ye = Earnings per share at the end of the Year (1 – b) = Dividend Payout Ratio b = Retention Ratio k = Rate of return required by shareholders r = rate of return on investment

  8. DIVIDEND POLICY FINDINGS IN GORDON MODEL:- SIMILAR TO WALTER MODEL: Optimum Payout Ratio for Growth firm ( r > k) = NIL The Payout Ratio for a normal firm (r =k) Is IRRELEVANT The declining firm ( r < k) attracts 100% Payout ratio

  9. Dividend policy JOHN LINTNER MODEL:- • Most firms think in terms of proportion of earnings to be paid as Dividend rather than proportion to be ploughed back. • Firms try to reach out to the target pay-out ratio gradually over a period of time as stock holders prefer a steady progression in dividends.

  10. DIVIDEND POLICY LINTNER MODEL:- Dc = CREPSc + (1 – C) D(c-1) Dc = Dividend per share for Current Year C = adjustment rate R = target payout rate EPSc = Earnings per share of Year c(current nyr) D(c-1)= Dividend rate per share for year c-1(last yr)

  11. DIVIDEND POLICY FINDINGS OF LINTNER MODEL:- • Current Dividend depends on partly on current earnings and partly on previous year dividend. • Dividends can be described in terms of a weighted average of past earnings.

  12. DIVIDEND POLICY MODIGLIANI & MILLER MODEL(MM MODEL) • DIVIDEND Policy is irrelevant for determining market price of share. • Market is perfect-investors go by earning power of the firm • Investments & financial decisions are independent. • Cost of Internal & External financing are equal.

  13. DIVIDEND POLICY MM-MODEL(BASIC VALUATION MODEL):- Pc = De + Pe 1 + k Pc= current market price per share K = cost of capital De= dividend to be declared at the end of the year. Pe = market price at the end of the year.

  14. DIVIDEND POLICY FINDINGS OF MM MODEL:- • If Dividend not declared ,Share Price increases • If Dividend declared, Share prices go down correspondingly

  15. DIVIDEND POLICY CRITICISM OF MM POSITION:- • Higher dividend sentiments • Current income preference • Transaction cost- selling/buying • Taxation- Dividend/ Capital Gains Tax • Investment Policy • Cost of external finance-impact on R/E.

  16. DIVIDEND POLICY MM MODEL:- CONCLUSIONS:- Factors suggesting Liberal Payout Ratio: • Preference of current income • Possibility of imprudent investment • Transaction cost of conversion Factors suggesting Low Payout Ratio:- • Capital Gains/ tax benefits • Deferred income requirements • Lower cost of retained earnings.

  17. DIVIDEND POLICY SUMMARY Dividend Policy depends on a mixture of Factors as discussed and no single model can be adopted Universally.

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