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Why and When Do Companies Pay Dividends

If you want to know why and when do companies pay dividends, read on to find out. Companies that have stockholders need to pay dividend. The reason why many companies pay dividends is because of the tax benefits they can get.

The question as to when the companies will pay the dividends usually depends on the method they use.

Why Companies Pay Dividends?

Companies that have stockholders need to pay dividend. The reason why many companies pay dividends is because of the tax benefits they can get. A company will tend to have a good standing when it is able to pay out reasonable dividends over time. Dividend seems to be directly related to security of a company and its financial wellbeing. There are different methods used in paying the dividends and a certain company can choose the best option that will suit its needs or requirements. This includes residual method, stability, and hybrid. These methods are different and in order to determine the ideal one to use, a company should be familiar with these methods.

The question as to when the companies will pay the dividends usually depends on the method they use. For instance, if a certain company makes use of the residual method, it relies mainly on the equity that is generated internally. When the capital requirements of the new projects are met, that is the only time when the company will pay out the dividends. The leftover equity will determine the amount of the dividend for each stockholder. If the company needs more equity, new stocks will be issued but there will be no dividend payout.

The Various Methods to Pay Dividends

Using the stability method, the dividends can be based on the cyclical or stable policy. Whichever is used, the stockholders will get their dividends. In the cyclical policy, a fraction of the company’s quarterly earnings will be set aside as dividends whereas the stable policy will base the quarterly dividends on the yearly earnings. Both options will still give the investors a steady income. The hybrid method is a combination of the residual and the stability methods. The debt equity ratio is related to the company’s long term goal and not for the short term only. Fluctuations may occur in the business cycle and so a small portion is set aside that comes from the yearly income. This will provide for the dividends.

Companies that are willing to pay dividends will typically use any of these methods. To continuously enjoy tax benefits, a company may decide to provide dividends since it can also reduce some of their overhead expenses. Always keep in mind that once the company decides to sell stocks, they will need to pay for the dividends because it is directly related to the security or financial stability. If dividends are always fluctuating, this can mean bad news for the company.

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