Corporate Finance, 6th Edition

Chapter 37DISTRIBUTION IN PRACTICE: DIVIDENDS AND SHARE BUY-BACKS

Now, give the money back

The topics addressed in this chapter are the logical complement of the preceding chapter. Distribution of cash can take the form of ordinary dividend payments, but also of exceptional dividends, share buy-backs or capital reductions.

Section 37.1 DIVIDENDS

The dividend is fixed by the board of directors or the ordinary general meeting of shareholders who decide the allocation of earnings based upon the proposal from the board of directors (or the supervisory board). It is then paid to shareholders in the following days or weeks.

1/ PAYOUT RATIO AND DIVIDEND GROWTH RATE

In practice, when dividends are paid, the two key criteria are:

• the rate of growth of dividends per share;
• the payout ratio (d), represented by

All other criteria are irrelevant, frequently inaccurate and possibly misleading. For example, it is absurd to take the ratio of the dividend to the par value of the share, since par value has little to do with equity value.

Hence the difficulty for a company of meeting a dividend yield objective. It is the shareholder who, when evaluating the company, determines the desired yield, not the other way around.

As established by John Lintner, management therefore has an objective expressed in terms of the payout rate applied to the level of future profits. Their objective ...