(iv) There are no floatation and transaction costs. After finalization of accounts, the directors judge the financial position and then recommend the amount of dividend at the annual general meeting. Thus whatever a shareholder gains on account of dividend payment is neutralised completely by the fall in the market price of shares due to decline in expected future earnings per share. What is the loss to each shareholder as a result of the policy of the company? P1 = Market price per share at the end of the period. Meaning of the statement “r% Rs … Shares are units of ownership interest in a corporation or financial asset that provide for an equal distribution in any profits, if any are declared, in the form of dividends. The Relevance Concept of Dividend. 2 per share for the current calendar year. Preferred shares can be looked upon as a hybrid debt where you have a claim on the assets, but like a loan, it has a fixed rate. Prof. Walter’s model is based on the relationship between the firm’s: (ii) The cost of capital or the required rate of return, i.e., k. According to Prof. Walter, If r > k i.e., if the firm earns a higher rate of return on its investment than the required rate of return, the firm should retain the earnings. When the rate of return of firm on its investment is greater than the required rate of return, i.e., when r > k, the price per share increases as the dividend payout ratio decreases. We have examined below two theories representing this notion: Prof. Walter’s approach supports the doctrine that dividend decisions are relevant and affect the value of the firm. When the rate of return is equal to the required rate of return, i.e., when r = k, the price per share remains unchanged and is not affected by dividend policy. Determine the value of its shares using Gordon’s Model assuming the following: The basic assumption in Gordon’s Basic Valuation Model that cost of capital (k) remains constant for a firm is not true in practice. Gst , banking , shares and dividend, Linear equation 10 ETC. Content Guidelines 2. (iii) The assumption that cost of capital (k) will remain constant also does not hold good. bonus shares. This argument is described as bird-in-the hand argument, i.e. Thus, the decision to pay dividends or retain the earnings may be taken as a residual decision. Shareholders may prefer current income as compared to further gains. In the wake of the removal of dividend restraint, the company now intends to pay a dividend of Rs. Content Filtration 6. The splitting of earnings between retentions and dividends, may be in any manner the firm likes, does not affect the value of the firm. The dividend is always reckoned on the face value of a share irrespective of its MV. The part of the annual profit of a company distributed among its shareholders is called dividend. Taxes do exit and there is normally different tax treatment for dividends and capital gains. ke=10%; (ii) r is 8%, i.e., rk, the company should retain the profits, i.e., when r=12%. The current price of a company’s share is Rs. Huge Collection of Essays, Research Papers and Articles on Business Management shared by visitors and users like you. Important Concepts: Stated Capital, Paid Up Capital, and Adjusted Cost Base . A share is defined as, “a share in the share capital of the company and includes stock” Share capital of the company is collected by issue of shares. Dividends are generally paid six-monthly, however some pay quarterly. Content Filtrations 6. E = Total earnings of the firm during the period. k > br. n = number of shares outstanding at the beginning of the period. Formula for Calculating Dividend Per Share There are 2 formulae which can be used for calculating the dividend per share. (ii) The internal rate of return, i.e., r, also does not, remain constant. There is also the concept of a deemed dividend, which is not tax free. (MM dropped this assumption later). 1.1 lakhs and also assuming that the dividend is paid. Dividend per share is an absolute figure that presents how much dividend a corporation has decided to pay to the shareholder for each share they hold. 2 per share last year (D0 = 2). 3 per share. Expandent Ltd. had 50,000 equity shares of Rs. The MM hypothesis of irrelevance of dividends is based on the following assumptions: (iii) Information about the company available to all without any cost. In case of normal firms where r = k, the dividend policy will not affect the market value of shares as the shareholders will get the same return from the firm as expected by them. ADVERTISEMENTS: This article throws light upon the two main concepts of dividend. This is something that's often forgotten. D1 = Dividend to be received at the end of the period. Shareholders will get dividends in proportion to their shareholding in the company. A dividend paid in stock shares rather than cash is a pro-rata distribution of additional shares of a company’s stock to owners of the common stock. 5 per share next year with an annual growth rate of 10 per cent. This theory regards dividend decision merely as a part of financing decision because the earnings available may be retained in the business for re-investment. In case the firm has profitable investment opportunities giving a higher rate of return than the cost of retained earnings, the investors would be content with the firm retaining the earnings to finance the same. Because the investors are rational and they want to avoid risk, they prefer near dividends than future dividends. Dividend may be in the form of cash or non-cash, i.e. 3. … Prohibited Content 3. Share is one of the units into which total capital is divided. 2. Show the effect of dividend policy on market price of shares applying Walter’s formula when dividend payout ratio is (a) 0% (b) 20%, (c) 40%, (d) 80%, and (e) 100%. The Relevance Concept of Dividend. The Irrelevance Concept of Dividend 2. For instance, in India, dividends are tax free in the hands of the shareholder up to Rs 10 lakhs, but the company paying the dividend has to pay dividend distribution tax at 12.5%. It belongs to a risk- class whose appropriate capitalisation rate is 15%.