The abuse of stock dividends!

The month of October is the  usual time for declaration of dividends by  companies listed on the bourses in Bangladesh whose accounting year ended in June. These companies could have declared dividends for the stock investors even before i.e., in the period between July to September, but most of the companies wait until the month of October, even some companies take more time. We do not know why they wait that long but for the apparent fact that if they declare dividends, especially cash, they will face an early cash outflow which most of the companies do not want.

Dividends can be declared in two forms - either in cash or in the form of a stock dividend. Although in other countries, stock dividend is not issued unless there is a business expansion plan, here in Bangladesh companies issue this type of dividend at will. Most of the time they do so just to avoid cash outflows from their accounts. Issuance of stock dividend without an expansion plan obviously leads to disproportionate increase in the equity base of the company, and if the company cannot earn more, its earning per share goes down drastically which disheartens the stock investors at the end. Issuance of stock dividends, in most cases, by the fundamentally weak companies bites the stock investors heavily, as they notice that companies which issued stock dividends in the past, their stock prices went down over time on the bourse. Some of the stock-paying companies' stocks are now being traded on the bourse at much lower than par values.

 The regulator BSEC (Bangladesh Securities and Exchange Commission) took a long time to understand the harmful side of stock dividends by the companies without business expansion plan. In the recent draft regulation they discouraged and wanted an explanation behind such issuance of stock dividends by the companies, but unfortunately the regulator later removed that condition-- maybe under the pressure of the vested quarters.

In the last few days of the month of October, it was seen that companies one after another declared stock dividends even in cases where the earnings did not support such dividend declaration at all. What is the reason behind this? The only thing that comes to mind is that the companies want to make their stock investors happy! But the stock investors now deem such stock dividends, not supported by earnings, as sheer trickery. They, by and large, prefer cash dividends to stock dividends. The main reason of such preference by the investors is that cash dividend does not lead to increase in the equity base of the company, but they hope that there will be no erosion in the future earning of the company per share, and as such they will not be receiving less in future. The investors now understand that the fundamentally weak companies are more prone to issuing stock dividends than the same by the companies with strong fundamentals, and they eventually leave such companies. It was noticed that the price of the stock dividend issuing companies plummeted after the declaration of such dividends. The sponsors or the owners should have understood the bad side of the issuance of stock dividends by them but unfortunately they see the immediate gains only in the form of not allowing cash outflows from the companies. They don't want to see what would happen to the future prices of their stocks. The position is like this: let the stock investors burn their fingers if they want to, and let the companies have good times with cash holding!

The regulator should not have budged under pressure from attaching a condition like the requirement of an explanation by the stock issuing companies as to their future business plans. Now it is open whether a company is doing good business or not. However, irrespective of its performance, it can issue stock dividend if it wants. Such freedom keeps open the scope of misuse of the same by the companies. The bearish condition that we now notice in the stock market is also partly due to the undesirable issuance of stock dividends by the companies. Stock dividends increase the supply of the shares, whereas money supply to the market is not increasing commensurately; the result is the overall fall of the prices of stocks.

Abu Ahmed is Professor of Economics, University of Dhaka. [email protected]