Problems faced by companies in dividend payments

There are many problems that a company face when it comes to dividend payments to its investors. A smaller growing company usually does not pay dividends. All the funds it generates are required to support the growth. As the growth slows, you and the other owners tend first to reward yourselves with higher salaries, taking your compensation in the most tax-efficient manner. With further maturity, however, some owners may retire. Limits on deductible compensation also exist for managers. In these circumstances, a company may begin to pay dividends.

dividend paymentsDividend Payments in Small business:

For the smaller business, dividends are typically irregular in amount. Some companies pay a regular percent of profit as dividend after taxes in one payment after the yearly income statement is completed. Others may pay a regular, small dividend several times a year with one special dividend after year end when it is clear what funds are available. These practices can create odd payout percentages for a company with volatile earnings.

The entrepreneur-owners of a private company are thus typically less concerned about maintaining the dividend level than the managers of a public company. You understand more clearly than an investor in a public company why dividends may have to be temporarily reduced so the company can service debt or complete an investment in assets. Lenders find it easier to gain cooperation from entrepreneurs in such decisions as curtailing the dividend than they do from professional managers of public companies.

Dividend Payment and company ownership:

The situation causing the greatest difficulty in smaller companies is a split among the owners. The tension is often between the previous generation or silent partners, who look to dividends as important income, and the current managers of the business. This latter group, whose members derive current income from their compensation and look to the future for reward, often wish to keep as much funds in the business as possible. The problem can be even worse if the current managers are professionals, vulnerable to discharge if the absentee owners become upset about dividends being curtailed.

Dividend Payment and Debt:

If maintaining the dividend is of strategic importance, in the sense that it avoids debilitating conflict among shareholders, you must allow for these cash flows in planning the maximum debt level for the firm. To identify a cap on the amount of debt that can be handled in a risk situation, the flows available to lenders must be cut by the amount of the unavoidable dividends. This reduction results in a proportionate reduction in the maximum borrowing capacity.

KEY POINT: This analysis must be explained carefully to the lenders. They will thus know in advance of the company’s situation and not be surprised if the company maintains dividend payments through a risk event. Lenders will also be reassured about the quality of management’s planning.

Related Post

Share Warrant | Meaning | Conditions | Merits and Demerits What is a Share Warrant? A Share Warrant is a document issued by the company under its common seal, stating that its bearer is entitled to the shares...
Rules Regarding Declaration and Payment of Dividend Rules Regarding Dividend The Companies Act provides various rules regarding the declaration and payment of dividend. They are summarized below: ...
Relationship between Assets, Capital Structure, and Dividends The capital-structure decision for the smaller company is both less complex and more critical than for the large corporation. It is simpler because th...
Duties of Auditors on Distribution of Dividends Duties of Auditor regarding the distribution of dividends The auditor should perform the following duties regarding the distribution of dividend: 1....
6 Differences between Interim dividend and Final dividend Important differences between Interim dividend and Final dividend An interim dividend differs from a final dividend in the following respects: 1. Th...

Leave a Reply