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Financial Management - DIVIDEND POLICIES

Traditional theory - DIVIDEND POLICIES

   Posted On :  20.06.2018 05:36 am

According to the traditional theory put forward by Graham and Dodd, the capital market attaches considerable importance on dividends rather than on retained earnings.

Traditional theory
 
According to the traditional theory put forward by Graham and Dodd, the capital market attaches considerable importance on dividends rather than on retained earnings. According to them “the capital markets are overwhelmingly in favour of liberal dividends as against conservative or too low dividends’
 
The following valuation model worked out by them clearly confirms the above view
 
P = M (d + e / 3)

Where,
 
P = market price per share,
 
D = dividend per share,
 
E = earnings per share,
 
M = a multiplier
 
According to this, in the valuation of share the weight attached to dividends is equal to four times the weight attached to retained earnings. This is made clear in the following modified model – in this E is replaced by D+R
 
P = M [d + (d +r/ 3)]
 
R = retained earnings
 
The weights provided by Graham and Dodd are based on their estimation and this is not derived objectively through empirical analysis. Not with standing this observation, the major thrust of the traditional theory is that liberal pay out policy has a favourable impact on stock price 
Tags : Financial Management - DIVIDEND POLICIES
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