Table Of Contents

Dividend Policy Types

Publication Date :

08 Jun, 2019

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#1 - Regular Dividend Policy

Under this type of dividend policy, the company follows the procedure of paying out a dividend to its shareholders every year. If the company earns abnormal profits, then it retains the extra profit. Whereas, if it remains in loss any year, it also pays its shareholders a dividend. This type of policy is adopted by the company with stable earnings and steady cash flow. In the eyes of investors, a company paying regular dividends is low risk despite the fact the quantum of regular dividend might be small. Under this policy, the investors get dividends at a standard rate.

The class of investors putting their investments into these companies is generally risk-averse. They mainly belong to the retired or weaker section of the society and aim at regular income. The company can only adopt this policy if it has a regular income. The main demerit of this policy is that investors cannot expect an increase in dividends, even if the market is relatively booming. This type of policy helps in creating confidence among the shareholders. It also helps stabilize the market value of shares, which increases the company's goodwill.

#2 - Stable Dividend Policy

Under this type of dividend policy, the company pays out a fixed percentage of profits as dividends yearly. For example, suppose a company sets the payout rate at 10%. Then this profit percentage will be paid out as dividends every year regardless of the quantum of profit. Whether a company makes a profit of $1 million or $200000, a fixed dividend rate will be paid out to the shareholders. In the eyes of investors, a company adopting this policy is risky. The reason being the amount of dividend fluctuates with the level of profit.

In it, the company makes three components for their dividends. One part is a constant dividend per share, and the other is a constant payout ratio. Last is a stable rupee dividend plus extra dividends. The reserve fund created for this purpose pays a constant dividend per share. The actual company volatility is not verifiable through the dividend payout. The target payout ratio defines a stable dividend policy. It also helps stabilize the market value of shares in the same line as the regular dividend policy.

#3 - Irregular Dividend Policy

Under this type of dividend policy, the company states that it has no obligation to pay a dividend to the shareholders. The board of directors will decide the quantum and rate of dividend. They will decide in respect of action taken with the earned profit. Their action concerning paying a dividend has nothing to do with the company's scenario of earning a profit or coming into a loss. It depends on the decision of the board of directors. The board might decide to distribute profit despite having low or no profit. It gains investors' confidence, and they will invest more in the company, and the company’s liquidity will increase.

In the eyes of Investors Company, paying periodic dividends is considered risky. On the other hand, the company might retain all or significant amounts of profit and distribute no or fewer dividends. The company may do this to increase the growth by using retained earnings. Moreover, companies with irregular cash flow and a lack of liquidity adopt this policy. The class of investors who are risk lovers prefers investing in this type of company.

#4 - No Dividend Policy

Under this type of dividend policy, the company pays no dividend to the shareholders irrespective of its profit or loss scenario. The payout ratio will be 0%. The company will retain the total earnings. It will reinvest into the company's business model to expand it further with an increased rate and without hurdling into issues like liquidity. The company gets funds through the earnings for shareholders, which is the cheaper cost of financing, increasing profit.

These policies are adopted by the company that is generally a startup or company (like Google or Facebook) who have already established trust among the investors. For startups, it helps expand their business, which will result in the overall growth of the business. The shareholders invest in the company's following no dividend policy with the aim that their total value of an investment will increase with the company's growth. For them, appreciation in share price is more important than the regular dividend. The class of investors investing in these companies generally belongs to younger or middle ages that are not more bent on a regular income.

Conclusion

In any company, dividends and the dividend policy plays a vital role. Many investors consider this an essential factor while deciding whether they should invest in the stocks of a particular company or not. Dividends help the investors to earn a high rate of return on the investment done by them. The dividend payment policy of the company is a reflection of the financial performance of the company. Thus the company should choose the dividend policy that it will be following correctly as it is critical to its financial growth and success.