Question

Expected Operating Cash Flow = 25m

Expected Free Cash Flow to the Firm = 20m

Expected Sustainable Growth Rate = 3%

How should management decide whether its better to invest the companys cash flows to create future growth or to pay a dividend to ite shareholders?

Answer 1

Companies decide on Dividend payout keeping the following factors in mind:

1. Business Nature: If it is in the interest of the company to reinvest the cashflow into the business for higher growth in future, then company may withhold the dividend.

2. Nature of Investors: If the majority of investors are aggressive who expect higher returns, company may look for aggressive growth by reinvesting the cashflow in the business. If stakeholders are expecting steady dividend then company may decide on dividend payout.

3. Economic situation: If there is a recession in the market, companies may decide to withhold the cashflow for future economic stress and business environment.

4. Competition Dividend policy: Similar companies dividend policy study also may help in determining the policy for this company.

Sustainable growth rate of 3% is fairly low which indicates a tough market situation or a stable company with stable cashflow.

A comparison of economic growth vis a vis Company's growth may help in deciding on whether to Payout dividend or Invest for growth.