Blog 10: Dividend policy

The problem on distribution of companies’ net profits can always raise a controversial debate. There are two approaches to allocate these amounts of money; one is using these capitals to reinvest positive NPV projects, another is return companies’ wealth to shareholders through dividends. Argument even shows that different way to distributing money will relatively affect shareholder wealth. If shareholders are given high dividends, it will increase share numbers which, in turn, will increase share price, hence share wealth improved accordingly. Indeed, a high dividend implies a prospective performance of companies, which helps to maintain and increase stock price.

However, it is still difficult for companies to make decisions on whether retain money from net profits or pay dividends. First and foremost, dividend payments have a strong dependency. It is hard to change a company’s dividend policy as long as it has been released, the reduced dividends by AIB is a typical example to show this theory. According to BBC News, share price of AIB has seriously plummeted due to the church in Ireland, hence, the reduced dividends act as a signal to reflect company’s bad financial performances which frustrate investors potentially. Moreover, according to the theory of “Bird in the hand”, because of the market’s uncertainty, shareholders are more likely to prefer the real cash in their hand instead of endure the risks in the long-term projects even though it maybe profitable. Nevertheless, Modigliani & Millar (M&M) argued that shareholders’ wealth has nothing to do with the dividend policy, they suggested that companies’ share price are heavily dependent upon its own profitability instead of the approaches on how to allocate dividends and how to distribute net profits. Honestly, I’m more inclined to this statement, as there are so many causes will affect companies to decide their dividend policy, but share price movement are more likely to decide by companies own financial performance.