Dividend Distribution is a part of the total profits incurred by an organization among its shareholders. It forms to be an important decision decided by a company’s top management as it determines the profit percentage to be distributed among its shareholders and the profit amount to be retained by the company for its business.
The dividend distribution of an organization has two conflicting theories. These theories are-
When the choice of dividend policy has an effect on the valuation of a company, it is considered as relevant theory. In such cases, a change in dividend payout ratio will lead to a change in the market value of that organization.
There prevails a direct relation between a company‘s dividend policy and the price of that firm’s shares in the stock market. While higher dividend rates lead to an increase in the valuation of stock, a lower dividend rate decreases the value of these stocks.
It is a theory where the dividend policy of a company is irrelevant since it is not related to the wealth of its shareholders. This theory depicts that an issuance of dividends will have no effect on the stock price of a company. It is believed that investors of a company do not differentiate between dividends and capital gains.
Walter’s Theory on Dividend Policy
Professor James E Walter believed in the relevant concept on dividend policy. He considered that every dividend policy has an effect on the valuation of that company. His theory further states that an organization which can afford to pay higher dividend rates tend to have higher value as compared to those companies who pay lower rates of dividend.