Question 9.C-R-Q.1: Consider the following businesses: (i) Alpha plc, a house b...
Consider the following businesses:
(i) Alpha plc, a house builder, has reported a surge in profits. Following two years of low economic growth, the economy has recently started to improve and housebuilding has now picked up.
(ii) Beta plc, a book publisher, has reported record profits as a result of a recently published bestseller.
(iii) Delta plc, a cosmetics business, has reported a steady rise in profits over recent years, reflecting the quality of its products.
Which one of the above is most likely to announce an increase in dividend payments in the near future and why?
It appears that Alpha plc is a cyclical business. Periods of high profits may, therefore, be followed by periods of low profits, or even losses. The evidence suggests that managers would be reluctant to announce an increase in dividends that could not be sustained over the whole business cycle. Investors can react badly to a dividend cut.
Beta has enjoyed a surge in profits but, again, this may not be sustained over time. Managers are normally reluctant to increase dividends, only to cut them at a later date when profits decline.
Delta plc has grown profits at a steady rate. The cosmetics business is not badly affected by business cycles and so managers may feel confident enough to announce an increase in profits in the near future based on the profit record to date and the reputation for quality.