Theories Of Dividends
Theories of Dividends.
Some of the major different theories of dividend in financial management are: Walter’s model 2. Gordon’s model 3. Modigliani and Miller’s hypothesis.
1- Walter’s model shows the importance of the relationship between the firm’s internal rate of return and its cost of capital in determining the dividend policy that will maximize the wealth of shareholders.
Walter’s model is based on the following assumptions: The firm finances all investment through retained earnings; that is debt or new equity is not issued; the firm’s internal rate of return, and its cost of capital are constant; All earnings are either distributed as dividend or reinvested internally immediately. Beginning earnings and dividends never change.
2- Gordon’s model: is explicitly relating the market value of the firm to dividend policy.
Gordon’s model is based on the following assumptions. The firm is an all equity firm; no external financing is available; the internal rate of return of the firm is constant; the appropriate discount rate of the firm remains constant; the firm and its stream of earnings are perpetual; the corporate taxes do not exist; the retention ratio, once decided upon, is constant.
3- Modigliani and Miller’s hypothesis: according to these guys dividend policy of a firm is irrelevant as it does not affect the wealth of the shareholders. They argue that the value of the firm depends on the firm’s earnings which result from its investment policy.
M’s hypothesis of irrelevance is based on the following assumptions: The firms operates in perfect capital market; taxes do not exist; the firm has fixed investment policy Risk of uncertainty does not exist. That is, investors are able to forecast future prices and dividends with certainty and one discount rate is appropriate for all securities and all time periods.
References:
Some of the major different theories of dividend in financial management are: Walter’s model 2. Gordon’s model 3. Modigliani and Miller’s hypothesis.
1- Walter’s model shows the importance of the relationship between the firm’s internal rate of return and its cost of capital in determining the dividend policy that will maximize the wealth of shareholders.
Walter’s model is based on the following assumptions: The firm finances all investment through retained earnings; that is debt or new equity is not issued; the firm’s internal rate of return, and its cost of capital are constant; All earnings are either distributed as dividend or reinvested internally immediately. Beginning earnings and dividends never change.
2- Gordon’s model: is explicitly relating the market value of the firm to dividend policy.
Gordon’s model is based on the following assumptions. The firm is an all equity firm; no external financing is available; the internal rate of return of the firm is constant; the appropriate discount rate of the firm remains constant; the firm and its stream of earnings are perpetual; the corporate taxes do not exist; the retention ratio, once decided upon, is constant.
3- Modigliani and Miller’s hypothesis: according to these guys dividend policy of a firm is irrelevant as it does not affect the wealth of the shareholders. They argue that the value of the firm depends on the firm’s earnings which result from its investment policy.
M’s hypothesis of irrelevance is based on the following assumptions: The firms operates in perfect capital market; taxes do not exist; the firm has fixed investment policy Risk of uncertainty does not exist. That is, investors are able to forecast future prices and dividends with certainty and one discount rate is appropriate for all securities and all time periods.
References:
References: http://www.yourarticlelibrary.com/theories/theories-of-dividend-walters-model-gordons-model-and-modigliani-and-millers-hypothesis/29462/