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What is Lintner's Dividend Behavior Model?
It is known that there can be two types of stability of dividends. One is the constant payout, while the other is the constant payout ratio. The latter usually results in fluctuating payments at different instances of payout. So, what do managers of companies think about paying the dividends in the constant payout ratio mode?
It was John Lintner, a professor from the Harvard Business School, who proposed a model in the year 1956 to help companies determine an optimal corporate dividend policy. His model stressed on the following two points −
What should be a company's target payout ratio?
And, the speed at which the companies should increase the current dividend payout to reach the target.
According to Lintner, companies think of the proportion of earnings that has to be paid out while finalizing a dividend payout policy. This means that when it comes to paying dividends, corporate firms do not think about the investment requirements. This is true especially for the companies in the United States. In India, it is generally observed that companies are interested in paying out stable dividends. That is, companies usually prefer to pay a constant amount of dividends over time. Along with the payment of fixed payouts, the companies aim to increase the dividend payout and slowly move towards a target payout.
Reaching the target payout is also an aim of US firms. They also prefer increasing the payouts gradually until a target payout is reached. Therefore, we can sum up that it is generally a habit of companies to pay constant dividends, then increase the dividends when time is ripe and then move to a target payout when the companies can bear the dividend payouts.
The Speed of Increasing the Dividend Payout
Managers usually derive current dividends depending on current income. When the income is large, the extra money should be stored for lean years when income dives down. This is done to keep the dividend payouts intact even when the income is low and the company undertakes new investment opportunities.
Companies usually move towards a target payout at a certain speed. This speed is usually slow and it increases with a stable increase of income of the companies. Therefore, the companies tend to increase the stability of dividends slowly in the early phases while increasing it with a certain speed gradually with passing time.
In essence, Lintner’s model states that −
Companies structure their dividend policy in accordance with the current earnings of the firm.
Changes in dividends usually don’t correspond exactly with the changes in the current earnings in the immediate time period.
It is observed that the dividends usually paid by the company depend on the current earnings and the dividend per share distributed in the last year.
Lintner's model was originally intended to study how companies distribute dividends among their investors; however now it has been used widely as an established model of how companies should set out their dividend policy.
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