Along my path of
investing in stocks, I’ve heard that Berkshire Hathaway had never pay out
dividend to their shareholders. This is because of the current chairman and
also CEO of Berkshire Hathaway, Warren Buffet believes that the cash can be
well utilized in investing back into his business instead of paying out to
shareholders as dividends. However, the company has a decent shares buyback policy
which is an another pipeline to reward its shareholders with cash. Tax
implication is one of the difference between shares buyback and dividend as
companies are taxed twice when giving out dividends. In fact, the company had
only paid dividend once to its shareholders back in year 1967 and Sir Warren
Buffet joked that the decision was made when he was showering in the bathroom. The
company is now worth nearly $540billions and its share price is current trading
at $330,350 which is similar to the price of a house thus it proves that
reinvesting cash to the business instead of giving out dividend is indeed an
effective strategy to grow the business. Nevertheless, should companies carry
out an ideal dividend policy to rewards its loyal shareholders? Or let’s put
ourselves in shareholders’ shoes, do they desire dividend payment from the
company they invested or prefer the company to reinvest the retained earnings
back into business?
From
my point of view, a company with a dividend policy that giving out dividends
between the range of 20%-40% from its retained earnings is desirable. This is
because when the share price of the company is not performing, dividends play
an important role to safeguard shareholders’ value. Even though shareholders
are making loss on the declining share price, they would still receive dividend
as a “compensation” for their investment and the risk that they are taking. For
instance, when the bear has take over the market and the overall market
sentiment is bad for a certain period of time, companies with a high dividend
yield are very defensive and preferable for shareholders to invest because the
share prices will generally decline at a high range hence dividends are able to
guarantee shareholders’ investment as a passive income. In contrast, it is
advisable that growing companies do not implement a dividend policy because
they can expand their business by investing the retained earnings in projects
and other investment. In this case, companies are able to growth at a high pace
and the share prices would eventually increase due to the rising future
earnings. Therefore, shareholders can enjoy a “yummy” capital gains out of the
stocks yet companies fulfilled their obligations by maximizing its shareholders’
wealth.
Speaking
of dividend, I recall that I had a best friend back in high school who came
from a wealthy background. I was admired by his wealth and one
day when we were eating lunch at canteen, I asked him about what do his family
do for a living out of curiosity, specifically his dad’s career. He answered: “my
dad is jobless.” I was terribly shocked by his answer and asked him immediately
after: “Then where are all the wealth from?!” He said he only knew that his
family would receive money regularly but had no idea where was it from. I was
desperate to figure out the answer then I asked my best friend to inquire his
parents. On the next day, he then told me that it was stocks, stocks that his grandfather
bought many years ago. At the time being, I barely know what stocks really is
and it turned out that his grandfather bought a large amount of blue-chip stocks
and later on transferred to his dad which stated on his will that the stocks
are prohibited to sell, the family could only receive dividends for their
lifetime. Therefore, his father receives
these dividends regularly and lives a wealthy life. As a matter of fact, there
are quite a number of shareholders are aiming at stocks with high dividend yields
in order to increase their passive income and eventually achieve the so called “financially
freedom”, where passive income is higher than the expenses.
In
short, it is not mandatory for companies to implement a dividend policy because
every companies are different in terms of their assets, liabilities, cash flow
and etc. However, companies can set their dividend policy using various
Dividend Relevance Theories as a reference whichever best fit their criteria. For
example, the theory of Bird-in-the-hand implies that companies should pay high
dividends to their shareholders in order to maximize share price because investors
prefer the certainty of dividend payments to the possibility of substantially
higher future capital gains. In contrast, Firm life-cycle theory shows that company
should implement dividend policy based on its life cycle thus when a company’s growth
rate and profitability rate are expected to decline in the future, company
should pay out dividends and vice versa.
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