What theory says irrelevance of dividends?

According to this theory, the dividend decision of a firm affects the market value of the firm. It suggests that shareholders prefer current dividend and there is a direct relationship between dividend decision and value of the firm. This theory was supported by two professors James E. Walter and Myron Gordon.

How does it affect dividend policy irrelevance?

The dividend irrelevance theory holds that the markets perform efficiently so that any dividend payout will lead to a decline in the stock price by the amount of the dividend. As a result, holding the stock for the dividend achieves no gain since the stock price adjusts lower for the same amount of the payout.

Are dividends relevant or irrelevant?

As per Irrelevance Theory of Dividend, the market price of shares is not affected by dividend policy. Payment of dividend does not change the wealth of the existing shareholders because payment of dividend decreases cash balance and their share price falls by that amount.

What is meant by stability of dividends?

Companies with a stable dividend policy provide a fixed dividend payment every year, even when earnings are volatile. For example, if a payout rate of 8% is set, then that’s the percentage of profits that the company will pay out, regardless of its performance during the financial year.

Who is the founder of the dividend irrelevance theory?

The theory was proposed by Merton Miller and Franco Modigliani (MM) in 1961. In particular, MM argue that the dividend policy does not have an influence on the stock’s price or its cost of capital. On this page, we discuss why Miller and Modigliani argue that the dividend policy does not matter.

Why are dividends irrelevant to the valuation of a company?

According to this concept, investors do not pay any importance to the dividend history of a company and thus, dividends are irrelevant in calculating the valuation of a company. This theory is in direct contrast to the ‘Dividend Relevance’ theory which deems dividends to be important in the valuation of a company.

What is the alternative theory of dividend relevance?

Shortly after MM published their theory, Myron Gordon and John Lintner proposed an alternative theory called the bird-in-hand theory or dividend relevance theory that argues that investors prefer companies that pay out high dividends.

Why are dividends irrelevant to the arbitrage argument?

This theory also believes that dividends are irrelevant by the arbitrage argument. By this logic, the dividends distribution to shareholders is offset by the external financing. Due to the distribution of dividends, the price of the stock decreases and will nullify the gain made by the investors because of the dividends.