Question

why do firms choose to make large increases in their dividends or start repurchase program? why would they choose one of these payout methods over another

Answer 1

Firms can give returns to shareholders in different ways - cash dividends, stock dividends, or share repurchases.

Large increases in dividend may be a tax-efficient way of distributing earnings to shareholders. For example, dividend payments may be tax deductible, and personal tax rates on dividends lower than corporate tax earnings. In such a case, a large dividend payment has a lower net tax effect than the company retaining its earnings.

Share repurchases may also offer a tax-efficient way of distributing earnings to shareholders. A company would repurchase shares when it has large cash reserves, and it feels that the market price of the share is below its fair or intrinsic value. The company would repurchase shares to increase EPS, and provide value to long-term shareholders.

Which method is chosen depends on the company's objectives, and resources. If large cash reserves are unavailable, share repurchase may not be an option at all. If the objective is only tax optimization, then either option would be chosen based on the circumstances and specific tax jurisdiction. If the objective is to reward long-term shareholders and increase EPS, share repurchase would be done.