Question

Investors and owners hold their interests in a company in order to make profits and earn income from those companies. When the time comes shareholders, directors and companies have various ways of returning or distributing value to shareholders. Please discuss the various means for returning value to shareholders, how they have recently become a bit controversial, and the signals different approaches to returning value give to existing and potential investors.

Answer 1

There are two main sources of returning value to shareholders which are- dividends and capital gains.

Dividends are the annual payments out of profits that are made to investors after taking into account all expenses, interest liabilities and tax liabilities. If any amount is left then a portion of them or whole are paid as dividends. These are not obligatory to the company so the company may or may not pay them in any year. Some companies that at ealier stages may not pay any dividend on their shares and reinvest any earning for future growth prospects while mature companies may pay a whole dividends since the company is already at a mature phase and no growth prospects are left.

Company might also pay interim dividends apart from regular dividends in the period of high profits which also increases the value to the shareholders.

Capital gains refer to the increase in value of the share in the secondary market. This way shareholders an earn returns apart form dividend payments.

However there is a controversy that that the shareholder-wealth-maximization requirement prohibits firms from acting in ways that benefit local communities or the environment, at the expense of the bottom line and their sole objective is profit maximisation regardless of the casualties.

Also shareholders and management may have conflicts called agency problems fro example if management team may be more willing to take on higher levels of risk, – operating, financial or investing – while your shareholders desire maximized returns in the form of capital gains and dividends. Shareholders are generally risk-averse, which is viewed as prudent and conservative.