Courageously announce to your stockholders that you plan to cut dividends and invest in the new markets. Continue to pay the dividends that you used to, and defer investment in the new markets. Continue to pay the dividends that you used to, make the investments in the new markets, and issue new stock to cover the shortfall Other
Aswath Damodaran 172 2. Dividends send a signal Increases in dividends are good news..
Aswath Damodaran 173 An Alternative Story..Increasing dividends is bad news…
Aswath Damodaran 174 3. Dividend increases may be good for stocks… but bad for bonds.. -2 -1.5 -1 -0.5 0 0.5 t:- 15 -12 -9 -6 -3 0 3 6 9 12 15 CAR (Div Up) CAR (Div down) EXCESS RETURNS ON STRAIGHT BONDS AROUND DIVIDEND CHANGES Day (0: Announcement date) CAR
Aswath Damodaran 175 What managers believe about dividends…
Aswath Damodaran 176 Assessing Dividend Policy: Or how much cash is too much?
Aswath Damodaran 177 The Big Picture…
Aswath Damodaran 178 Assessing Dividend Policy Approach 1: The Cash/Trust Nexus • Assess how much cash a firm has available to pay in dividends, relative what it returns to stockholders. Evaluate whether you can trust the managers of the company as custodians of your cash. Approach 2: Peer Group Analysis • Pick a dividend policy for your company that makes it comparable to other firms in its peer group.
Aswath Damodaran 179 I. The Cash/Trust Assessment Step 1: How much did the the company actually pay out during the period in question? Step 2: How much could the company have paid out during the period under question? Step 3: How much do I trust the management of this company with excess cash? • How well did they make investments during the period in question? • How well has my stock performed during the period in question?
Aswath Damodaran 180 How much has the company returned to stockholders? As firms increasing use stock buybacks, we have to measure cash returned to stockholders as not only dividends but also buybacks. For instance, for the four companies we are analyzing the cash returned looked as follows.
Aswath Damodaran 181 A Measure of How Much a Company Could have Afforded to Pay out: FCFE The Free Cashflow to Equity (FCFE) is a measure of how much cash is left in the business after non-equity claimholders (debt and preferred stock) have been paid, and after any reinvestment needed to sustain the firm s assets and future growth. Net Income + Depreciation & Amortization = Cash flows from Operations to Equity Investors - Preferred Dividends - Capital Expenditures - Working Capital Needs - Principal Repayments + Proceeds from New Debt Issues = Free Cash flow to Equity
Aswath Damodaran 182 Disney s FCFE
Aswath Damodaran 183 Comparing Payout Ratios to Cash Returned Ratios.. Disney
Aswath Damodaran 184 Estimating FCFE when Leverage is Stable Net Income - (1- δ ) (Capital Expenditures - Depreciation) - (1- δ ) Working Capital Needs = Free Cash flow to Equity δ = Debt/Capital Ratio For this firm, • Proceeds from new debt issues = Principal Repayments + δ (Capital Expenditures - Depreciation + Working Capital Needs)
Aswath Damodaran 185 An Example: FCFE Calculation Consider the following inputs for Microsoft in 1996. In 1996, Microsoft
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