Corporate Finance & Risk Management 03 Payout Policy

Transcription

1 Corporate Finance & Risk Management 03 Payout Policy Ernst Maug University of Mannheim Tel: +49 (621)

2 Topics Covered The choice of payout policy Dividend payments and share repurchases How do companies decide on the payout? Information in dividends and share repurchases The payout controversy 2016 Ernst Maug Corporate Finance & Risk Management: Payout Policy 2

3 Dividends and share repurchases Dividends Regular cash dividends Extra dividends Special dividends Liquidating dividends Stock dividends Share repurchases - methods Buy shares on the market Tender offer to shareholders Dutch auction Private negotiation (greenmail) 2016 Ernst Maug Corporate Finance & Risk Management: Payout Policy 3

4 Payout Policy in the US 2000 Dividends and share repurchases in the US (in $ billions) Dividends Repurchases Earnings less repurchases and dividends Source: Compustate 2016 Ernst Maug Corporate Finance & Risk Management: Payout Policy 4

5 Dividend payment procedure (US) A company s board sets a dividend that has to be approved by the annual meeting. Dividend payments are made to all stockholders holding shares on a particular record date. Stocks trade cum-dividend until two days before the record date. Stocks trade ex-dividend thereafter. Source: BMA, Fig Ernst Maug Corporate Finance & Risk Management: Payout Policy 5

6 Example: Dividend payment procedure CashCow Inc. announces to pay a dividend of 2 per share - On the ex-dividend date the stock price drops from 20 to 18 - Do shareholders lose money? Stock price CashCow Inc. Ex-dividend date Time Assume you hold one share of CashCow Inc. - Share value before ex-dividend date: 20 - Share value (incl. dividend) afterwards: = 20 In practice, price drops are smaller because of tax effects 2016 Ernst Maug Corporate Finance & Risk Management: Payout Policy 6

7 Repurchases in Germany Repurchases in Germany 18, Total repurchase 16,000 14,000 12,000 10,000 8,000 6,000 Total repurchase Number of companies Number of firms 4,000 2, Source: Global Compustat 2016 Ernst Maug Corporate Finance & Risk Management: Payout Policy 7

8 Repurchases in Germany The Legal Situation Regulated in 71-71e AktG Historically very restrictive - but not impossible KonTraG introduces new 71 no. 8 AktG (May 1998): - AGM can authorize management to repurchase shares - Resolution valid for maximum of 18 months - Not more than 10% of share capital (nominal) - Management can cancel shares (with AGM authorization) 2016 Ernst Maug Corporate Finance & Risk Management: Payout Policy 8

9 The Dividend Decision Dividend changes follow shifts in long-run earnings - target sustainable level of earnings - not short-run changes in earnings General Motors Source: Berk/DeMarzo, Fig Ernst Maug Corporate Finance & Risk Management: Payout Policy 9

10 The Dividend Decision (2) Managers are reluctant to make dividend changes that might have to be reversed (US) German firms are less averse to reducing / omitting dividends than US firms - typically return to previous dividend within two years - omissions more likely if bank is major shareholder 2016 Ernst Maug Corporate Finance & Risk Management: Payout Policy 10

11 Dividends vs. repurchases Firms repurchase stock when - they have accumulated a large amount of unwanted cash - wish to change their capital structure by replacing equity with debt. Firms prefer repurchases to dividends - when they want to disburse cash without committing to regular dividend payments (US) 2016 Ernst Maug Corporate Finance & Risk Management: Payout Policy 11

12 Do Dividends Matter? The Modigliani-Miller Irrelevance Proposition Consider the choice between - paying a dividend - using an equivalent amount of money to repurchase shares. Assume: - There are no tax considerations. - There are no transaction costs. - The investment, financing, and operating policies of the firm are held fixed. Then the choice between paying dividends and repurchasing shares is a matter of indifference to shareholders Ernst Maug Corporate Finance & Risk Management: Payout Policy 12

13 MM Irrelevance: A Proof Consider the balance sheet of Cashrich, Inc. Assets ( m) Liabilities ( m) OA 700 Debt 200 Cash 300 Equity 800 1,000 1,000 The company has 20m shares outstanding at per share. Cashrich wishes to pay out 100m - cash dividend ( 5 per share) - repurchase (2.5m 40.00) Typical investor: Jane owns 100 shares of Cashrich - currently owns shares worth 4,000 - how is her wealth affected? OA = Operating Assets = PPE + Working capital + NPV of projects 2016 Ernst Maug Corporate Finance & Risk Management: Payout Policy 13

14 Pay a dividend Suppose Cashrich pays a dividend of 5 per share: - 5*20m= 100m The balance sheet of Cashrich, Inc. has changed: Assets ( m) Liabilities ( m) OA 700 Debt 200 Cash 200 Equity Now the company has 20m shares at per share. How is Jane doing now? - Owns 100 shares worth 3,500 - Plus cash Total: 4, Ernst Maug Corporate Finance & Risk Management: Payout Policy 14

15 Repurchase stock Cashrich repurchases shares for 2.5 million shares at *2.5m= 100m Assets ( m) Liabilities ( m) OA 700 Debt 200 Cash 200 Equity If Jane tenders, she sells her 100 shares for 4,000 - Jane owns 4,000 in cash. If Jane does not sell, she owns still 100 shares. These shares are worth 700m/(20m-2.5m)= per share. - Jane owns 4,000 in stock Ernst Maug Corporate Finance & Risk Management: Payout Policy 15

16 The rightist argument Dividends may prevent managers from overinvesting Consider the balance sheet of GrowSlow, Inc. Assets ( 000s) Liabilities ( 000s) OA 600 Debt 200 NPV -100 Cash 500 Equity 800 1,000 1,000 - GrowSlow has no positive NPV-projects, managers would waste money on negative projects with NPV of -100,000 - Requires investment of 300,000 - The company has 50,000 shares outstanding at per share. What happens if GrowSlow pays out cash and cancels investment projects? 2016 Ernst Maug Corporate Finance & Risk Management: Payout Policy 16

17 Dividends and overinvestment Now the balance sheet looks different: Assets ( 000s) Liabilities ( 000s) OA 600 Debt 200 NPV 0 Cash 200 Equity The stock price now drops to 600,000/50,000= The dividend amounts to 300,000/50,000= 6.00 per share Investors own 600 in stock and 300 in cash - per share their wealth has increased from to Ernst Maug Corporate Finance & Risk Management: Payout Policy 17

18 Tax Implications the leftists Now consider taxes (US tax system) - Jane pays 31% income tax on dividends - 20% capital gains tax - bought her shares at $35.00 per share Dividend scenario Cash dividend % 155 Net income 345 Ex-dividend portfolio value 3500 Net portfolio value 3845 Repurchase scenario Sell shares at 4000 Bought shares at 3500 Taxable income % 100 Net portfolio value 3900 How does this work out with German income tax rules? 2016 Ernst Maug Corporate Finance & Risk Management: Payout Policy 18

19 Capital Income Taxes in Germany Since 2009, capital income has been taxed at a flat tax - 25% Abgeltungssteuer - 5.5% Solidaritätszuschlag - overall capital gains tax rate = 25% x = 26.4% This concerns all types of capital income, i.e. interest, dividends, and capital gains There is an exemption for stocks bought until the end of Ernst Maug Corporate Finance & Risk Management: Payout Policy 19

20 Tax Implications the leftists Now consider Jens (current German tax system) - Jens pays 25% income tax on dividends* - 0% capital gains tax (for shares bought before 2009) - bought his shares at per share in 2008 Dividend scenario Cash dividend % 125 Net income 375 Ex-dividend portfolio value 3500 Net portfolio value 3875 Repurchase scenario Sell shares at 4000 Bought shares at 3500 Taxable income 500 0% 0 Net portfolio value 4000 Had Jens bought his shares in 2009 he would be equally well-off! * We do not regard the 5.5% Solidaritätszuschlag in this example Ernst Maug Corporate Finance & Risk Management: Payout Policy 20

21 Taxes: Other Issues Some countries have an imputation system - corporate taxes on dividends can be deducted from personal income tax Dynamic considerations: - what if you can defer capital gains? Trading at dividend dates - transaction costs 2016 Ernst Maug Corporate Finance & Risk Management: Payout Policy 21

22 Clientele effects Some investors prefer high dividends - income oriented investors - investors with low taxes (Jane with<20%) - those who can defer capital gains - allocate portfolio towards high-dividend paying stocks Other investors prefer low dividends - growth-oriented investors - investors with high marginal tax rates - allocate portfolio towards low-dividend stocks Prices adjust so that each group of investors ( clientele ) is satisfied - Changes in payout policy affect clienteles - reallocation of shares, transaction costs 2016 Ernst Maug Corporate Finance & Risk Management: Payout Policy 22

23 Summary Companies payout policies have changed dramatically - repurchases much more common today in many countries Controversy about how important dividend policy is - Maybe dividends are good because they reduce agency costs but repurchases can do that too - or maybe dividends are bad because they increase tax liabilities - or maybe they do not matter because all clienteles are satisfied by different companies 2016 Ernst Maug Corporate Finance & Risk Management: Payout Policy 23