d. Discuss the pros and cons of each dividend policy described in parts a throug

Question

d. Discuss the pros and cons of each dividend policy described in parts a through c.

Year EPS
2015 $4.00

2014 $3.80

2013 $3.20

2012 $2.80

2011 $3.20

2010 $2.40

2009 $1.20

2008 $1.80

2007 $-0.50

2006 $0.25

Alternative dividend policies Over the last 10 years, a firm has had the earnings per share shown in the following table. a. If the firm’s dividend policy were based on a constant payout ratio of 40% for all years with positive earnings and 0% otherwise, what would be the annual dividend for each year? b. If the firm had a dividend payout of $1.00 per share, increasing by $0.10 per share whenever the dividend payout fell below 50% for two consecutive years, what annual dividend would the firm pay each year? c. If the firm’s policy were to pay $0.50 per share each period except when earnings per share exceed $3.00, when an extra dividend equal to 80% of earnings beyond $3.00 would be paid, what annual dividend would the firm pay each year?

d. Discuss the pros and cons of each dividend policy described in parts a through c.

Year EPS
2015 $4.00

2014 $3.80

Explanation / Answer

Pros and Cons of each dividend policy:

all years with positive earnings and 0% otherwise

Pros:

This is the best method because without any confusion, the company is paying 40% of NI as dividends unless its in loss. This will encourage the investors to buy more shares as a guaranteed dividend payout is seen and eventually will increase the share price.

Cons:

This puts a pressure on the company every year to pay 40% of their income as dividends. When the earnings are very low 40% going out as dividends is very huge. And a constant payout pressurises more on dividend payouts rather than utilizing the funds for other necessities which may in turn effect the productivity.

Pros:

This is also a good payout because it does guarantee a good payout amount per share that motivates the shareholders.

Cons:

First of all this process is very confusing for the shareholders. It would not give a good return if it the number of shares are less. And if dividend payouts are not satisfying shareholders tend to lose confidence which in turn would effect the share price and ultimately of the company.

$3.00 would be paid,

Pros:

This is also a good payout because it does guarantee a good payout amount per share that motivates the shareholders.

Cons:

First of all this process is very confusing for the shareholders. It would not give a good return if it the number of shares are less. And if dividend payouts are not satisfying shareholders tend to lose confidence which in turn would effect the share price and ultimately of the company.

If the firm’s dividend policy were based on a constant payout ratio of 40% for

all years with positive earnings and 0% otherwise

Pros:

This is the best method because without any confusion, the company is paying 40% of NI as dividends unless its in loss. This will encourage the investors to buy more shares as a guaranteed dividend payout is seen and eventually will increase the share price.

Cons:

This puts a pressure on the company every year to pay 40% of their income as dividends. When the earnings are very low 40% going out as dividends is very huge. And a constant payout pressurises more on dividend payouts rather than utilizing the funds for other necessities which may in turn effect the productivity.

If the firm had a dividend payout of $1.00 per share, increasing by $0.10 per share whenever the dividend payout fell below 50% for two consecutive years,

Pros:

This is also a good payout because it does guarantee a good payout amount per share that motivates the shareholders.

Cons:

First of all this process is very confusing for the shareholders. It would not give a good return if it the number of shares are less. And if dividend payouts are not satisfying shareholders tend to lose confidence which in turn would effect the share price and ultimately of the company.

If the firm’s policy were to pay $0.50 per share each period except when earnings per share exceed $3.00, when an extra dividend equal to 80% of earnings beyond

$3.00 would be paid,

Pros:

This is also a good payout because it does guarantee a good payout amount per share that motivates the shareholders.

Cons:

First of all this process is very confusing for the shareholders. It would not give a good return if it the number of shares are less. And if dividend payouts are not satisfying shareholders tend to lose confidence which in turn would effect the share price and ultimately of the company.

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