Question

Clientele effect, tax differential, agency cost and information asymmetries affect the dividend value perceived by investors". Express your views on this statement. Justify your answer citing appropriate examples from world Firms.

Answer 1

Clientele effect, tax differential, agency cost and information assymetries, they do affect the dividend value perceived by the Investors.

Clientele effect : The idea behind clientele effect is that a particular kind of investor chooses to invest in a particular kind of company and when that compnay policies are changed with reference to that, then that group of investor might choose to stop their investment there. For example some investor invest with idea of getting stable dividend, while some focus solely on large capital gain. For a company like APPLE which pays stable dividends a certain would be very interested to Invest there but if suddenly APPLE decides to stop paying dividend then that group of investor might not continue to hold apple in their portfolio.

Tax differential: The way dividend is taxed is slightly different from the way capital gains are treated. In most countries capital gain are exempted from taxation and even if they are taxed they are taxed at a rate lower than the dividend tax rate. In some countries dividend are taxed twice, one from the company when it pays dividend and other when the investor file their income tax return. Depending on the tax structure,company has to decide whether to py dividends or not because it might affect the Investor overall return.

Agency cost : Agency cost arises because of the conflict of Interest between management and shareholder. The idea behind this is that if an organisation which is at mature stage of life, have large hoardigs of cash, then it should pay dividends to the shareholder because if they are not doing so then excess resources craeates the incentive for management to take unnecessary risk for their own benefit at the expense of shareholders wealth. Most companies which are at mature stage of life choose to follow a stable dividend policy. For IBM, Microsoft, APPLE.

Information assymetry: Information assymetry says that Internal management has more access to the information about the company financial and non financial position. The idea is the more transparent a firm is, there is less information assymetry and there is high probability that the firm will continue to pay dividends. High transparency most of the time helps in keeping a stable dividend polcy as well as less volatile stock price movement.