1.0 Introduction

This report entails the economics of dividends. Critical areas in the discussion are the meaning of dividends, the relationship with the stock prices, reasons for giving either the cash or stock dividends, and the dividend yield and payout ratio.

2.0 Defining Dividends

Dividends refer to the sharing or distributing of the firm’s earnings to specific classes of organisational shareholders as outlined by the board of directors. According to Hayes (2022), common shareholders of firms that pay dividends are eligible, provided they own stocks before the ex-dividend period. They are also described as rewards to the investors for putting their money into the venture. Notably, dividends can be paid out in either additional stocks or cash. Some companies do not pay dividends. Instead they retain the earnings for investing back into the company. The company’s shareholders should approve the dividends through voting rights.

2.1 Relationship Between Dividends and Stock Prices

Dividends affect the stock prices as described in the cash dividends. Once the stock dividends are declared, the stock prices increase or decrease. The stock dividends may increase the shares’ outstanding number, yet the company’s value is stable. This dilutes the book value per common share, thus reducing the stock prices (Boyte-White, 2021). Dividends are irreversible, which means that when they are paid, money flows from the firm’s books and accounts, which affects the share prices. The prices are likely to increase after the announcement of the declared dividend amount. The relationship between the stock prices and the dividends can be described from the dividend discount model (DDM). According to Ntui et al. (2015), DDM entails the stock prices calculated according to the dividends that will be paid. The discount is centred on the expected annual rate. From the financial theory, the stock value is worth all of the company’s future cash flows, which are discounted at a reasonable risk-adjusted rate. Dividends, therefore, are used to measure the cash flow to the shareholder. The dividend discount model is the intrinsic value, calculated as follows.

(Chen, 2022).

An essential factor to note is that if the stock does not yield any dividends, the anticipated future cash flow is the stock sale price.

3.0 Cash and Stock Dividends

Dividends are of different types, including cash, assets, stock, common, and special. Cash dividends are the direct use of money or cash in payments to the shareholders. It is the most popular type. The cash dividends can be paid as cash, cheque, or wire transfer (Moin et al., 2020). The cash dividends are released from the profits and accumulated earnings. On the other hand, stock dividends involve paying the dividends in the form of shares to the shareholders. The pro-rate concept is applied where the stocks are based on the shares owned by the investor. The company rewards the employees by adding them shares.

3.1 Reasons for Giving the Types of Dividends

There are several aspects characterising the selection of either dividend. Among the reasons is liquidity. The most suitable approach is the stock when the organisation wants to reward the shareholders but is short in the cash. Another reason is the shareholder’s choice or option. Shareholders who choose the stock dividends can generate money from it, which is at their discretion (Zhou and Liu, 2019). For the cash dividends, the shareholders stick to the money and cannot claim more ownership of the firm. The selection of the dividends is also centred on the company’s stage. Stable companies prefer cash dividends, whereas growing organisations prefer stocks. Another aspect is the time or duration. The majority of shareholders seeking cash are short-term, whereas those seeking the stocks have long-term thoughts.

4.0 Dividend Yield and Dividend Payout Ratio

The dividend payout ratio (DPR) and the dividend yield are valuation ratios for analysts and investors to evaluate the companies as investments for the income on dividend. The dividend yield provides the yearly return for share, which the investor realises the cash dividend payments. The investor uses the dividend yield as the measure to evaluate the income from dividends through investments in other funds or equities. According to Husna and Satria (2019), the dividend payout ratio is applied to assess the firm’s financial condition and prospects for enhancing and maintaining the dividend payouts. The dividend payout ratio shows the net income percentage that the company is paying out in dividends.

5.0 Buying Shares of Firms that Pay Dividends or Buying Growth Stocks..

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