Role of a Financial Manager in Dividend Policy
All businesses must reconcile the competing interests of reinvesting capital back into the company against paying out profits to ownership. The role of the corporate financial manager is complicated further by the need to manage debt financing vs. equity financing and to make decisions related to retaining earnings for growth or setting dividend payments to investors. Owners must become familiar with corporate structure and financing to understand the role of a financial manager in dividend policy.
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The Corporation
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The Accounting Glossary defines the corporation as "a legal entity formed under the laws of a specific state...legally defined as having separate existence from that of its founders and owners." This "separate existence" is often referred to as the limited liability status of the corporation, which allows owners to separate their personal assets from those related to the business. The corporation enables the business to raise capital by issuing shareholder equity to owners or selling debt to creditors.
Corporate Structure
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Large corporations carry two tiers of leadership that allow shareholders and management to work together in the best interests of the firm. Investors elect a board of directors that is led by the chairman of the board. The board of directors then hires management to run the daily operations of the company. The chief executive officer is the top manager, while the chief financial officer is responsible for the financial standing of the company.
Corporations will finance themselves by issuing debt and selling equity ownership stakes as shares of stock. There are several considerations that factor in to a corporation's decision as to whether to issue dividends. The corporation must make interest payments to creditors to remain solvent, but it has discretion in deciding whether to return profits to shareholders in the form of dividends. Interest payments are tax-deductible costs, but dividends are paid out of net income. Further, preferred stock carries rights to receive dividend payments prior to common stock equity.
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Mission
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Enhancing shareholder value is the mission of all publicly traded corporations. In terms of dividend policy, financial managers must decide if profits will earn higher returns for owners by being reinvested into the company as retained earnings or by being paid out as dividends.
Dividend Policy
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Most corporations will pay out dividends on a quarterly basis. Management announces that shareholders holding stock on the close of trading on a particular date will receive dividend payments on a day that is usually one month from the closing date. Quarterly dividends are quoted in per-share terms. Typically, the corporation will announce annual dividend increases as the business grows.
Growth Versus Mature Companies
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Rapidly growing businesses must preserve capital to develop markets. Financial managers and investors of these young companies prefer that money be spent to expand operations rather than be paid out as dividends. As new companies become established, they may begin to make small dividend payments.
Mature companies may have little opportunity for growth. Financial managers may decide they can serve shareholders better by paying dividends than by retaining earnings in a business that offers minimal return on investment. Investors often buy stock in mature companies in anticipation of a steady stream of dividend income instead of the prospect of growth and capital appreciation.
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References
Resources
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