Investors’ desire for dividends has long baffled economists. “For stockholders, a dividend payment is merely putting money in one of your pockets by taking it out of another,” argued economist Merton H Miller. A company that pays out dividends will need to raise more funds from loans or bond finance, unless it is changing its investment policy. Mr Miller’s contention is that when investors are preoccupied with a company’s dividend policy, they are actually talking about its financing policy: whether or not it uses outside funds to fuel its growth.
In a functioning market, there is no logical reason why a company will be valued more highly for paying a dividend. While some see a big cash pile as unhealthy, share buybacks should have the same effect as dividends: converting cash into a higher per-share value.
But investors favour them for many reasons: the regular year-on-year income, a sign of management confidence about the future, and even compensation for the risk of investing in a company over the long term. And there’s clear consensus that failing to live up to those promises is a bad sign.