KEBIJAKAN DIVIDEN

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KEBIJAKAN DIVIDEN

• Budi Purwanto

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• Membiayai investasi baru yang menguntungkan?
• atau
• Membayar dividen untuk pemegang saham?

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Pembayaran Dividen
Payment day
Record day
Announcement date
Ex-dividend day
2-3 weeks
2-3 weeks
2-3 days
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Penurunan harga pada Ex-date
Ex date
-t . . . 2 1 0 1
2 . . . t
Price 10
Price 9

• The share price will fall by the amount of the
  dividend on the ex date (Time 0).
• If the dividend is 1 per share, the price will
  be equal to 10 1 9 on the ex date.
• Before ex date (Time 1) Dividend 0 Price
  10
• On ex date (Time 0) Dividend 1 Price 9

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• Bila perusahaan menahan semua laba untuk
  investasi yang mendatangkan laba, dividend yield
  akan 0, namun harga saham akan meningkat,
  menghasilkan capital gain yang lebih tinggi.

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• Bila perusahaan membayarkan laba sebagai dividen,
  pemegang saham akan menerima kas atas investasi
  yang ditanamkan, namun capital gain akan menurun,
  karena kas yang sama tidak diinvestasikan ke
  dalam perusahaan.

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Apakah investor lebih menyukai tingkat pembayaran
dividen tinggi atau rendah?

• Dividends are irrelevant
• Investors dont care about payout.
• Bird-in-the-hand
• Investors prefer a high payout.
• Tax preference
• Investors prefer a low payout, hence growth.

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Dividend Payout Ratios forValue Lines Selected
Industries
Industry Payout ratio Banking 38.29 Computer
Software Services 13.70 Drug 38.06 Electric
Utilities (Eastern U. S.) 67.09 Internet
n/a Semiconductors 24.91 Steel 51.96 Tobacco 55
.00 Water utilities 67.35
None of the internet companies included in the
Value Line Investment Survey paid a dividend.
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Early evidence on dividend policy Lintners
(1956) stylized facts

• Lintner (1956) in a series of interviews with
  corporate managers observed the following facts
• Firms have long-run target dividend payout
  ratios mature companies pay out a high
  proportion of their earnings, while young
  companies have low payouts
• Managers focus more on dividend changes than on
  absolute levels
• Dividend changes follow shifts in long-run,
  sustainable earnings managers smooth dividends
• Managers are reluctant to make dividend changes
  that might have to be reversed

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The dividend debate Does dividend policy matter?

• The issue Should a firm be preoccupied with its
  dividend policy? Does the choice of dividend
  policy affect firm value?
• Dividends are irrelevant M M (1961) showed
  that, under certain assumptions, dividends do not
  really matter because they do not affect firm
  value
• Dividends are bad Dividends create a tax
  disadvantage for shareholders and destroy value
• Dividends are good Dividends are good because
  shareholders (or some of them) prefer to receive
  them rather than not

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Dividend Irrelevance Theory

• Investors are indifferent between dividends and
  retention-generated capital gains. If they want
  cash, they can sell stock. If they dont want
  cash, they can use dividends to buy stock.
• Modigliani-Miller (1961) support irrelevance.
• Theory is based on unrealistic assumptions (no
  taxes or brokerage costs), hence may not be true.
  Need empirical test.

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M M Dividends are irrelevant

• Assume that
• There are no transaction costs from converting
  price appreciation into cash
• Firms that pay too much in dividends can issue
  stock that is fairly priced and do not face
  transaction costs
• The firms investment decision is not affected by
  its dividend decision and operating cash flows
  are the same in each period
• Managers of firms that pay too little in
  dividends do not waste excess cash

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Two alternative views Dividends matter

• Dividends are good
• The clientele argument
• Dividends as signals
• Dividends may discipline managers
• Dividends are bad
• Taxes whenever dividends are taxed more heavily
  than capital gains, firms should pay the lowest
  cash dividend they can get away with and earnings
  should be retained or used to repurchase shares

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Bird-in-the-Hand Theory

• Investors think dividends are less risky than
  potential future capital gains, hence they like
  dividends.
• If so, investors would value high payout firms
  more highly, i.e., a high payout would result in
  a high P0.

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Dividends are good

• The Clientele argument
• There are stockholders who like dividends, either
  because they value the regular cash payments or
  because they do not face the tax disadvantage
• Given the fact that there is a vast diversity
  among investors in terms of preferences, it is no
  surprise that investors may form clienteles based
  upon their tax brackets
• Thus, investors will cluster around firms whose
  dividend policies match their preference (called
  the clientele effect)

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• Dividends as signals
• By changing their dividend policy, firms send
  signals about their future cash flows to market
  participants
• When firms increase dividends, they somehow
  commit to those higher dividends, and, thus, send
  a signal that they expect to have higher future
  cash flows (share price increases)
• Given that firms do not like to cut dividends,
  firms that are forced to do so send a signal that
  their financial future is troubling (share price
  decreases)

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• Dividends discipline managers
• In firms with principal-agent problems between
  stockholders and managers and the potential of
  free cash flows being wasted, making a commitment
  to pay dividends imposes discipline on managers

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Dividends are bad

• If dividends are taxed differently than capital
  gains (dividends taxed as ordinary income) and
  the marginal tax rate of dividends is higher than
  that of capital gains, there exists a tax
  disadvantage for those stockholders who receive
  dividends
• Even if ordinary income and capital gains are
  taxed the same, dividends have a tax disadvantage
  because investors do not have the choice of when
  to report the dividend as it is the case with
  capital gains

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Tax Preference Theory

• Retained earnings lead to capital gains, which
  are taxed at lower rates than dividends 28
  maximum vs. up to 38.6. Capital gains taxes are
  also deferred.
• This could cause investors to prefer firms with
  low payouts, i.e., a high payout results in a low
  P0.

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• The tax disadvantage of dividends leads to the
  following conclusions
• Firms whose stockholders are primarily
  individuals should pay a lower dividend compared
  to firms that are mainly owned by institutional
  investors (they are under a tax-exempt status)
• The higher the income level of the firms
  investors, the lower the dividend paid by the
  firm should be
• As the tax disadvantage of dividends increases,
  the aggregate amount of dividends paid should
  decrease

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Some not so good reasons for paying dividends

• The Bird-in-the-hand fallacy
• Risk-averse investors may prefer the certainty of
  dividend payments over the uncertainty of capital
  gains
• The proper comparison is between dividends today
  and an almost equivalent amount of price
  appreciation today
• The evidence shows that share prices drop on the
  ex-dividend day (firms that pay dividends
  experience a decline in their share price on that
  day)

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• The excess cash hypothesis
• A firm has excess cash in a year and decides to
  return it to its stockholders through a dividend
  (assuming no investment projects in that year)
• If the lack of investment projects is temporary,
  then firm should consider future financing needs
  and the cost of raising capital
• Why not return the excess cash through a share
  repurchase, given the evidence on firms
  reluctance to change dividends?

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Double taxation of dividends

• The issue Corporate income was taxed twice, at
  the corporate level and at the stockholder level
• Corporate earnings were taxed at 35 and
  shareholders receiving dividends were also faced
  with marginal tax rates as high as 38.6
  (combined tax rate could be as high as 60)
• In the US, The Bush administration passed
  legislation that would limit the tax rates for
  dividends to a maximum of 15 during the period
  2003-2008
• The capital gains tax was also reduced from 20
  to 15

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Signaling, hypothesis?

• Managers hate to cut dividends, so wont raise
  dividends unless they think raise is sustainable.
  So, investors view dividend increases as signals
  of managements view of the future.
• Therefore, a stock price increase at time of a
  dividend increase could reflect higher
  expectations for future EPS, not a desire for
  dividends.

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The clientele effect

• Different groups of investors, or clienteles,
  prefer different dividend policies.
• Firms past dividend policy determines its
  current clientele of investors.
• Clientele effects impede changing dividend
  policy. Taxes brokerage costs hurt investors
  who have to switch companies.

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The residual dividend model

• Find the retained earnings needed for the capital
  budget.
• Pay out any leftover earnings (the residual) as
  dividends.
• This policy minimizes flotation and equity
  signaling costs, hence minimizes the WACC.

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Using the Residual Model to Calculate Dividends
Paid
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Data for SSC

• Capital budget 800,000. Given.
• Target capital structure 40 debt, 60 equity.
  Want to maintain.
• Forecasted net income 600,000.
• How much of the 600,000 should we pay out as
  dividends?

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Of the 800,000 capital budget, 0.6(800,000)
480,000 must be equity to keep at target capital
structure. 0.4(800,000) 320,000 will be
debt. With 600,000 of net income, the residual
is 600,000 - 480,000 120,000 dividends
paid. Payout ratio 120,000/600,000
0.20 20.
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How would a drop in NI to 400,000 affect the
dividend? A rise to 800,000?

• NI 400,000 Need 480,000 of equity, so
  should retain the whole 400,000. Dividends 0.
• NI 800,000 Dividends 800,000 - 480,000
  320,000. Payout 320,000/800,000 40.

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How would a change in investment opportunities
affect dividend under the residual policy?

• Fewer good investments would lead to smaller
  capital budget, hence to a higher dividend
  payout.
• More good investments would lead to a lower
  dividend payout.

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Advantages and Disadvantages of the Residual
Dividend Policy

• Advantages Minimizes new stock issues and
  flotation costs.
• Disadvantages Results in variable dividends,
  sends conflicting signals, increases risk, and
  doesnt appeal to any specific clientele.
• Conclusion Consider residual policy when
  setting target payout, but dont follow it
  rigidly.

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Which theory is most correct?

• Empirical testing has not been able to determine
  which theory, if any, is correct.
• Thus, managers use judgment when setting policy.
• Analysis is used, but it must be applied with
  judgment.

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Implications for Managers
Theory
Implication
Irrelevance
Any payout OK
Bird-in-the-hand
Set high payout
Tax preference
Set low payout
But which, if any, is correct???
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Setting Dividend Policy

• Forecast capital needs over a planning horizon,
  often 5 years.
• Set a target capital structure.
• Estimate annual equity needs.
• Set target payout based on the residual model.
• Generally, some dividend growth rate emerges.
  Maintain target growth rate if possible, varying
  capital structure somewhat if necessary.

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Appendix

• Examples

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Example 1 Dividend irrelevance

• Suppose that Illini Corp. has after-tax operating
  income of 100m growing at 5 per year and its
  cost of capital is 10
• Assume that the firm has reinvestment needs of
  50m also growing at 5 per year and that it has
  105m outstanding shares
• The firm pays out any residual cash flows as
  dividends each year
• The FCFF EBIT(1 t) Reinvestment needs
  100m - 50m 50m

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• The firms value (using the Gordon growth model)
  is
• FCFF(1 g)/(WACC g) 50(1.05)/(0.10 0.05)
  1,050m
• The price per share is 1,050m/105m 10
• The dividend per share is 50m/105m 0.476
• The value per share is 10 0.48 10.48

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• Case 1 UIUC Corp. decides to double its
  dividends, but its investment needs remain the
  same, meaning that the firm has to raise 50m
• Suppose the firm can issue stock worth 50m at no
  cost
• The existing shareholders receive dividends of
  100m or dividends per share equal to 100m/105m
  0.953
• Given no change in the firms cash flows, the
  growth rate of cash flows or the cost of capital,
  the firms value has not changed

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• However, existing shareholders now own 1,000m
  and new shareholders 50m of the firm
• Thus, the price per share for existing
  shareholders is 1,000m/105m 9.523
• The value per share for existing shareholders is
  9.523 0.953 10.476
• The average shareholder is indifferent to this
  change in dividend policy (higher dividend per
  share is offset by lower price per share)

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• Case 2 UIUC Corp. decides to eliminate dividends
  and retain the 50m
• Total value of the firm is
• PV of after-tax operating cash flows Cash
  balance
• 1,050m 50m 1,100m
• The value per share is 1,100m/105m 10.476,
  meaning that the increase in share price is
  offset by the loss of dividends