Theory Of Dividend Policy

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This essay aims at providing an understanding of dividend policy by reviewing the existing theories on dividend policy, the practical and operational issues of the policy and the factors influencing the policy. Additionally, this essay looks at the dividend policy that is used in Maldives business and will use evidence from Maldivian business environment. Dividend policy refers to the set of rules or guideline that a company uses to decide how much of its profit it will payout to the shareholders.
Cash dividend and dividend payment
Cash dividend is money paid to stockholders, normally out of the corporation's current earnings or accumulated profits. Not all companies pay a dividend. Usually, the board of directors determines if a dividend is …show more content…
They say that dividend policy is irrelevant and is not deterministic of the market value. Therefore, the shareholders are indifferent between the two types of dividends. All they want are high returns either in the form of dividends or in the form of re-investment of retained earnings by the firm.
Two important theories discussed relating to the irrelevance approach, is the residuals theory and the Modigliani and Miller approach.
Theory of dividend policy Residual theory
This theory suggests that dividend payments should be viewed as the amount left over after all acceptable investment opportunities have been undertaken. Overall, this theory suggests that no cash dividend is paid as long as the firm’s equity need is in excess of the amount of retained earnings. Also, it suggests that the required return demanded by stockholders is not influenced by the firm’s dividend policy an argument that in turn suggests that dividend policy is …show more content…
Investors would like to receive larger cash dividends because of inflation. But from the firm’s viewpoint, inflation causes it to invest substantially more to replace existing equipment, finance new capital expenditures, and meet permanent working capital needs. Thus, there may be a tendency to hold down cash dividends. The amount of growth a firm can sustain and its profitability is related to its dividend decisions, so long as the firm cannot issue additional equity. The protective agreements in a bond indenture or loan agreement often include a restriction on the payment of cash dividends. This restriction is imposed to preserve the firm’s ability to service its
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