General Instruction
Follow the guideline questions listed in the next page for the second case analysis.
Answer all the questions in a Word file and email your case analysis to our TA
before the deadline. When you send your file, identify your group with all
members’ full name, student ID, and section. Please coordinate with your group
members and make sure that each group just sends ONE file to the TA.
Our TA, Mr. Cao: wswyq110@163.com
Due Time for the Second Case: March 13 (Sunday) before 11:59pm
Case2：Dividend Policy at Linear Technology
1.
Dividend Policy:
YEAR
DPS(SplitAdjusted)
Dividend
Payout Ratio
Dividend
Yield
Repurchase
Per Share
92
93
94
95
96
97
98
99
2000
2001
2002
2003
$0
$0.019
$0.028
$0.033
$0.040
$0.049
$0.060
$0.072
$0.089
$0.129
$0.171
$0.201
0
0.146
0.146
0.116
0.089
0.111
0.101
0.114
0.097
0.096
0.273
0.276
0
0.005
0.005
0.004
0.005
0.004
0.004
0.002
0.001
0.003
0.005
0.007
0
0.226
0.157
0.620
1.931
0.775
3.085
4.922
0.000
1.696
4.103
3.524
Profit Margin:
YEAR
Net
Income
Cash
Flow
92
93
94
95
96
97
98
99
2000
2001
2002
2003
20.94%
24.12%
28.33%
31.96%
35.47%
35.43%
37.31%
38.35%
40.78%
43.95%
38.57%
38.71%
25.13%
21.60%
24.39%
27.70%
19.14%
31.90%
40.12%
29.37%
55.09%
38.39%
0.59%
2.99%
Investment Ratio:
YEAR
CAPX Ratio
Pre
Inv/CAPX
92
0.08
93
0.05
94
0.08
95
0.08
96
0.19
97
0.06
98
0.05
99
0.08
2000
0.11
2001
0.13
2002
0.03
2003
0.02
2.94
5.58
3.86
4.70
2.34
6.89
10.94
7.17
5.51
4.38
14.37
241.13
A)
Linear Technology has been consistently paying incremental dividends since 1993.
Linear Technology has taken an optimal dividend policy approach which has
consisted of $.01 constant-growth increase in DPS every year in correlation with
increasing net income. It is also important that management maintains the pattern
of incremental increases, in order to avoid any potential signaling. The company’s
dividend policy does not follow a target payout ratio; this is evident because the
ratio ranges from .089(1996) to .276 (2003). The dividend yield has been volatile
overall; however, it has increased from .005 in 1993 to .007 in 2003.
B)
Overall, Linear Technology has shown positive growth and profit potential and has
shown to be a financially stable company, despite conditions including an
economic downfall. Linear Technology has been able to decrease costs and has
maintained fairly stable levels of funding for their R & D costs. The management
expresses little desire in risky investments and has been focused on short-term debt
securities. This has proven to be a successful strategy for the company. Given the
strategy, this will not affect the company’s investment needs. The past 10 years
have shown that the increase in dividends has lead to an increase in share price,
however, this is not the only determining factor in the variation. Signaling
hypothesis confirms the theory that many investors look to dividend changes as
signals of earnings forecasts.
Income Statement
2002
2003
( Dividend Increase)

Source: Adopted from Compustat

Sales
512.3
587.7
Income Before Taxes
278.4
320.4
GAAP – INCOME TAX (30%)
80.7
92.9
Common Shares Outstanding (Split-Adjusted) 316.2
312.4
EPS (Split-Adjusted)
.73
.63
Cash Flow Statement
Net Income
197.70 227.47
+ Tax Adjustment
55.20
Operating Cash Flow
239.30 240.13
Stock Purchases
221.60 165.70
Dividends Paid
54
66
Net Cash Flow
3
36.34
.093
C)
When looking at other competitors, Linear Technology definitely stands out with
highest payout ratio, at 29.64% with the $0.01 increase. Linear Technology has
been using a substantial amount of operating cash flow (26.13%), compared to its
competitors. However, Linear Capital has over 1.5 billion in cash reserves and has
proven itself to be a financial stable company. Linear Technology has no long-term
debt in comparison to other competitors which have been using substantially larger
amounts as high as $533 million. In terms of stock repurchases dividend is placed
in the middle of its competitors.
Year: 2002
Linear
Technology
Intel
Cisco
Maxim
Microsoft
Net Cash
Flow/Revenue %
.0058
30.39
3.87
-.44
24.86
Profit %
38.57
10
11.65
28.21
27.6
Dividends
54
533
0
0
0
Repurchases
221.6
4013
1854
864
6069
2.
You can see that Linear Technology started making dividend payouts in 1993, as
their dividend payout ratio was 0% in 1992. From 1993, they have been paying
annual dividends in Q4. In 2002, the dividend payout ratio spiked dramatically to
27.31%.
Depending on the company an increase in dividends is generally a good thing. For
some companies that rely heavily on research and development, they may even
have a payout ratio of zero. This can be seen as acceptable by the shareholders and
investors as they are expected to reinvest back into the company. Shareholders
generally welcome a rise in dividends. If the payout ratio is increasing
systematically and gradually then it can be viewed as a healthy, successful
business. If the payout ratio spikes suddenly and the spike is unsustainable for an
extended period then there would be a lot of uncertainty surrounding the company
from investors. In the case of Linear Technology, the payout ratio jumped up to
27.31% in 2002. This is a huge increase from the previous years. Linear
Technology is able to sustain this spike for FY 2002 due to a large amount of cash
it is holding. The projected ratios for 2003 have pegged the ratio to rise further
still. If this ratio is not brought down then Linear Technology may face problems
in the future.
Stock repurchases are when the issuing company buys its own shares back on the
market or directly from the shareholders. A stock repurchase can be used to
restructure a firm’s capital structure while not increasing its debtors. Stock
repurchases can increase value for stockholders as long as the capital gains tax is
less than the taxes on dividends. Stock repurchases are less reliable, however than
receiving cash dividends. Dividends can be seen as a dependable income and so
investors may choose to invest more into a stock with steady dividends payments
than stock with uncertain repurchases.
This is when a firm chooses to split its existing shares into more shares. The total
number of shares increases but the total dollar value of the shares remains the
same. A firm may decide to split stocks in order to attract more investors. Stocks
are sold in lots and sometimes buying lots may be expensive for all investors. This
stock split does not have any direct effect on the price of the stock but it does
attract renewed investor interest which in turn can help drive the price up; however
temporary this may be.
Dividends can be used as signaling effects. A signaling effect sheds information on
the firm. A firm that has increased dividend payout indicates that the firm has a
good future ahead. On the other hand, a firm that is planning on reducing its
dividend payout is not sending out positive growth signals.
Linear Technology is planning to increase its dividend payout by $0.01 per share.
The firm has been doing this year on year for more than three years now as the
case study tells us. Should the firm stick to this plan it will send a positive signal
out to shareholders. It will relay that the firm is doing well and will continue to do
so in the future. This could be valuable to Linear Technology in assuring investors
that the firm is still financially stable despite it having 189.90 from cash flow from
operating activities; the first time it has dipped under 200 since 1997. Also, Linear
Technology is still set to be earning a positive net income of common stock in
2003 currently at 170.6 but it is considerably less than net income for common
stock of 2000 and 2001, 287.8 and 427.4 respectively. So increasing its dividends
would signal to investors that the company is stable. Deviating from this plan
could send a negative signal to potential investors and current stockholders and
lead to repercussions in the future.
3.
If Linear were to pay out its entire cash balance of $1.5 billion as a special
dividend, this will lead to a potential signaling effect to current and potential
investors. Many investors may see this as an indicator of management's positive
sales forecasting. The Value of the company will decrease since the $1.5 billion
will be subtracted from retained earnings. and decreasing this account will affect
the net working capital, affecting the value of the company; since the value of debt
is not affected by the liquidity of the company, the decrease in value of the
company will be will be expressed as a decrease in value of equity, decreasing the
book-value per share. However, the positive signal that a dividend increase would
send, would increase the demand for shares and, therefore, raise the market-value
price of the stock. Since dividends do not affect the income statement, the
company’s earnings will remain the same. However, the income statement and
retained earnings will be reduced, causing a reduction in stakeholder equity. The
earnings per share will also not be affected since there were no changes in the
number of shares outstanding.
If Linear were to repurchase shares instead, the value of the company would
decrease, for the reasons shown above. However, since the number of shares
outstanding is going to decrease accordingly to the price of $30.87 (approximately
50M shares), the share price would most likely increase the loss in value of the
company is not as big as the decrease in the number of shares outstanding. The
earnings will remain unaffected as they are earnings based on already existing
shares. The earnings per share will increase because there are fewer shareholders to
divide the profit. A share repurchase could potentially also lead to an improvement
in return on assets and return on equity.
4.
Initially, a firm invests their profits in future growth prospects to expand the
company and increase value for shareholders. Dividends are paid out when a
company has no growth prospects to invest in and cash on hand is available to use.
On the other hand, firms also pay dividends because many investors like the steady
income associated with dividends, so they will be more likely to buy that
company's stock. Investors also see a dividend payment as a sign that a company is
doing well.
There are numerous reasons why it may be beneficial to a business to repurchase
its shares:
Company's issue shares to raise equity capital to fund further expansion, but if they
see there are no growth prospects, holding on to unused equity funding means
sharing ownership. Buying back some of the outstanding shares can be a way to
pay off investors and reduce the overall cost of capital. Also, repurchasing shares
will increase the price per share, maintaining the current position for existing
shareholders. Another reason to repurchase shares is to reduce an outstanding
number of shares, and as a result increases earnings per share. A stock repurchase
can be used to restructure a firm’s capital structure while not increasing its debtors.
Stock repurchases can be a long-term benefit for stockholders as long as the capital
gains tax is less than the taxes on dividends.
5.
In conclusion, Paul Coghlan should recommend that the board continue with its
plans to increase its dividend payout by $0.01 per share. Strong financials,
lowering costs and an aggressive plan provides for a promising outlook for the
future for the company. The firm has provided a consistent incremental increase of
$0.01 per share in dividends in the past years; sticking with this plan will help
maintain the confidence of its current investors. This is important because although
the company is financially stable, it has not reached peak levels it had once reached
in the early 2000’s. Deviating from the currently established dividend policy could
have potential adverse signaling effects to current and potential stockholders.