State the alternative dividend policies a firm may adopt.

CPA-Financial-Management-Section-3 Revision kit

The alternative dividend policies are:

(i) Fixed or constant dividend per share policy:
– The firm pays a fixed dividend per share irrespective of how much profits is available. This creates certainty for shareholders but put pressure on the firm to pay the same dividends even when the profits are low. The earnings per share (EPS) will be fluctuating over time.
– The D.P.S could be increased to a new level if it looks reasonably sustainable.

(ii) Fixed payout ratio policy:
– A fixed proportion of equity earnings will be paid out as dividends meaning that the dividends shall fluctuate over time creating high uncertainty for shareholders. This could adversely affect the market price per share (MPS) as well as the required rate of return.
– The E.P.S and D.P.S will fluctuate over time.

(iii) A low fixed D.P.S plus surplus:
– The firm will first provide for investment needs out of its equity earnings and the surplus/residual profits (if any) would be paid out as dividends.
– This policy maximizes shareholders wealth since projects with positive
N.P.V are first financed from equity earnings.

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