4. Dividend policy ratios Aa Aa Dividend policy ratios are used to analyze a fir

Question

4. Dividend policy ratios Aa Aa Dividend policy ratios are used to analyze a firm's dividend distribution pattern and policy. This helps investors and analysts gain insights into the firm's future growth prospects. The two primary dividend policy ratios are the dividend payout ratio and the dividend yield Consider the following situation: You are planning to invest a portion of your savings in stocks. Based on your lifestyle preferences, you realize that you need regular income from your investments. After a discussion with your financial planner, you decide to invest in companies that pay dividends. You've done extensive research, and have narrowed your investment options to Summers Inc. and Volcker Company You've rank both companies evenly in terms of growth and earnings, but you realize that there is a difference in the dividend payout ratios of the two firms. Summers Inc.'s dividend payout ratio is 37%, and Volcker Company's dividend payout ratio is 44%. Assuming that everything else among the two companies remains the same, which of the following firms likely has more stable earnings than the other? Summers Inc. O Volcker Company Your financial planner has also advised you to analyze the dividend yields for both companies so that you know what to expect next year. Your adviser helped you by giving you both companies' expected dividends per share and their current stock price. Calculate the dividend yield and complete the table below Expected dividend per share Stock price Dividend yield Summers Inc. $1.50 $9.75 Volcker Company $2.25 $6.90

Explanation / Answer

Volcker company

Since both companies have same growth and earnings, the company with higher dividend payout is expected to have more stable earnings. The company is able to give more dividends since it knows that its earnings are stable and will be able to retain its earnings regularly.

Dividend yield = Dividend/ Price

Summers Inc Dividend Yield = 1.5/9.75 = 15.38%

Volcker Co = 2.25/6.9 = 32.61%

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