Question

Explain how investors react to changes in a company’s dividend payout policy. Discuss what a

firm’s payout policy indicates about the financial status of a company. Discuss how taxes impact

an investor’s desire for dividends. In the long-term, how does a company’s payout policy impact

the value of an investor’s portfolio (disregarding taxes)?

Answer 1

Dividend payout policy tells investors about the fundamentals and future plans of the company.

If the company is new/young, then investors would want the management to invest in growth instead of paying dividends. If not, then this means that the company doesn't have any future plans and that is a bad sign. Whereas, if the company is old/mature, investors would want steady and increasing dividend payouts. If the old company fails to deliver that, it means that the financial health of the company is not that good.

Few investors want the share price to grow and they don't care much about dividends whereas few want steady income by dividends. Investors shouldn’t make decisions based on taxes alone, but they should be mindful of the potential tax event from their decisions, particularly when it comes to dividends. To ensure your tax hit isn’t eating away at your gains, investors should invest in qualified dividends, keep income investments in tax-advantaged investment accounts and engage in tax-loss harvesting to offset winners with losers.

The whole idea behind investing is to make money, and dividend stocks can do that for you. But they can also create a capital gains tax event, which will reduce the gains you’ll realize.

In the long run, dividend policy will be a major factor in deciding the company's share price movement. Gains from the existing shares will be used for the next investment, thus dividend policy of the shares held by the investors play a huge role in long term portfolio strategy.