Equity Finance (3) Flashcards
What is a constant dividend policy?
Avoids surprises and signals stability to shareholders. Doesn’t change even if proportion of retained earnings increases
What is constant growth?
Constant growth is predictable and favoured by shareholders
What is constant payout ratio?
Paying a dividend which represents a constant proportion of each year’s earnings
What is residual dividend policy?
Retained earnings are used to fund all positive NPV projects and any remaining earnings not needed to fund such projects are paid out as a dividend
What does a residual dividend policy likely lead to?
Fluctuating dividends
What happens if a company has fewer positive NPV projects available?
It should start paying dividends
What is meant by zero dividend policy?
All surplus cash can be profitably reinvested back into the business
What is clientele theory?
Company’s historical dividend policy may have attracted particular investors to whom the policy is suited in terms of need for current income, tax implications, etc
What should company do in clientele theory?
Maintain a stable dividend policy or risk losing major investors such as financial intermediaries
What does bird-in-the-hand theory?
Argues that shareholders prefer higher dividends (and therefore lower potential capital gains) because a cash dividend today is without risk
is the bird-in-hand theory correct?
No
What is dividend irrelevance theory?
Under certain conditions, shareholders are indifferent to dividend policy
What is a share buyback program?
Writing directly to all shareholders with an offer to buy shares at a fixed price
What does a share buyback program improve?
EPS and ROE should improve as there’s fewe shares
What is a special dividend?
Any exceptional cash surplus will be returned. Cash is distributed
