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Assess the market and shareholder behaviors when a publically traded company makes the decision not to pay dividends to its shareholders, suggesting how management should react to these behaviors. Provide support for your rationale. Evaluate the factors that an investor may consider when deciding whether or not to invest in a company with a policy of non-dividend payments. Indicate whether or not you believe this a prudent choice for some investors. Provide support for your rationale.
Expert Answer
Dividend– It is a part of company’s profit that is distributed among the shareholders to motivate them to buy more shares of that company.
When companies do not pay dividends– There are two major reasons when companies do no pay dividend-
- Companies do not pay dividends if they do not get good profit. Paying dividend is not in the company’s budget as there are already some obligations to pay.
- Companies do not pay dividends if it reinvest the 100% profit in further expansion purpose so that company may grow in the future and this growth will give boost to its share price and shareholders will gain by capital appreciation.
Management reaction on this behavior- Management may react negatively as in the company’s management, there are some shareholders who are entitled to get dividend but if company is not giving any dividend, they will not get motivated. They may have objection on the company’s dividend policy, they can back out from the management.
Factors that an investor may consider when deciding whether or not to invest in a company with a policy of non-dividend payments-
Investors are of two types’ one who invest into shares for getting a regular income in the form of dividend another who invest into company’s shares at low price to get the growth in the future. Investors may ignore dividend if company’s share is undervalued and P/E ratio is lesser as compare to its competitors, that reflects, share is trading at cheaper price. Investors can buy the company’s share at lower price and seek growth and capital appreciation in the future, whenever share price goes up, they sell it and book the profit.
This is a prudent choice– Yes, I think so; this is a prudent choice as if company declares dividend, it will be a fixed percentage and shareholders will get a fixed amount of dividend, sometimes company may issue shares instead of cash while paying dividend. If shareholders invest into “Growth stocks”, they will get good capital appreciation that is sometimes very huge.
