Describe the policies used in distributing dividends?

Expert Solution

A dividend can be defined as payment made to its shareholder by a corporation, generally as a distribution of profits. When a corporation earns a surplus or profit, distributes a proportion of the profit as a dividend to shareholders and also re-invest the profit in the business as retained earnings. Distribution of dividend can be in cash or, if the corporation has dividend investment plan, corporation can pay it by share repurchase or the issue of further shares. Dividend policy is the guidelines set a company for making a decision how much of its earnings it will pay out to shareholders. There are mainly three policies to dividends: residual, stability or a hybrid of the two.

-- Residual Dividend Policy: Under this policy, companies choose to rely on internally generated equity for financing any new projects. The dividend payments can come out of the leftover equity or residual only after all project capital requirements are met. A main benefit of the dividend-residual model is that the residual-dividend model is helpful in setting longer-term dividend policy with capital-projects budgeting. A main limitation is the unstable dividend.
-- Dividend Stability Policy: The dividends fluctuation created by the residual policy significantly contrasts with the dividend stability policy. Under this policy, quarterly dividends are set at a fraction of yearly earnings; and thus decrease the chance of uncertainty for investors and give them with income.
-- Hybrid Dividend Policy: The policy combines the residual and stable dividend policy. Using this policy, companies tend to view the debt/equity ratio as a long-term instead of a short-term goal. In today's scenario, this policy is commonly used by companies that pay dividends

ekkarill92 answered 1 year ago

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