Monday, August 3, 2009

How dividend policy affects investors?

Most of the shareholders want that the company they have invested in churns out higher and higher dividends year after year. A company with a higher payout ratio (dividend / EPS) is favored over the one with a lower dividend payout ratio. But this fallacy has severe long term implications which most short-term investor overlook. Let's take examples of two companies in almost similar sector: Tata Motors and Maruti Suzuki Motors, the former has a high dividend payout ratio compared to the latter. Did it translate to higher returns for an individual investor?

Tata Motors has over the last six years paid 8 + 12.5 + 13 + 15 + 15 + 6 = INR 69.5 as dividend while Maruti Suzuki has paid 1.5 + 2 + 3.5 + 4.5 + 5 + 3.5 = INR 20 as dividend. Tata Motors had rights issue in May 2008 where one share of INR 300 was allotted for every six held in the company. Thus the shareholders had to pump in INR 50 per share back into the company. So out of INR 69.5 of dividend obtained from the company, INR 50 was paid back leaving just INR 19.5, less than that of Suzuki's INR 20.

In terms of capital gains, Tata Motors have appreciated by -12% from 1 April 2004 till date while Maruti Suzuki has appreciated by 185% in the same time frame. Maruti's share price has gone up from around INR 500 to INR 1425 as of today while that of Tata Motors has languished from INR 485 to INR 425.

Even in terms of balance sheet of both the companies, Suzuki stands out. Tata Motors increased its debt from INR 1698 Crore in FY2004 to a whopping INR 34974 Crore (USD 7 billion - more than its standalone revenue a year back) in FY2009. Even excluding the debt increased to acquire JLR, the debt position at the end of March 2008 was at INR 11585 Crore. While Maruti increased its debt from INR 312 Crore to INR 900 Crore at the end of March 2008 (data for March 2009 not available). The interest burden of Tata Motors has increased from INR 194 Crore in FY2004 to INR 743 Crore in FY2008. Including JLR debt, the interest outgo is INR 1931 Crore in FY2009. Maruti's interest outgo has increased from INR 45 Crore in FY2004 to INR 56 Crore in FY2009.

If Tata Motors had been conservative in dividend policy and given out only INR 20 as dividend over the last six years, they would have saved at least to the tune of INR 2150 Crore which would have reduced their debt, reduced their interest outgo by at least INR 175 Crore and made their balance sheet much stronger.

Have a long term investment horizon.
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1 comment:

Abhijit said...

What you might have overlooked in your analysis is the cost of the debt - If the cost of the debt is really low, it makes sense to issue debt rather than utilize funds from your own equity, where' you'd have to earn atleast ROE. So issueing more debt per se is not bad.. and there are other ways I'd look at the Rights Issue, rights issue was the way Management increased its stake in the company in a falling market. Just some thoughts.. Disclaimer I am a tata motors shareholder and will remain as long as I can imagine.

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