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December 04, 2009

INSTITUTIONAL INVESTOR ARTICLE: THE PROBLEM WITH DIVIDENDS

I recently wrote a second article for Institutional Investor magazine (http://www.iimagazine.com/) called “The Problem with Dividends.” You can read the full article here.

Here is an excerpt from that article:

To paraphrase Einstein, “matter cannot be created or destroyed,” yet this fundamental tenet seems to be ignored when discussing dividends. Despite the popularity of dividend-paying stocks, serious analysis dictates that dividends are a net drain of company enterprise value. Why are we so confused about dividends? There seems to be a misunderstanding of enterprise value and tax-effect because dividend payments by their very nature have a negative expected return.

If a company has just paid $10 million in dividends then its enterprise value has decreased by a corresponding $10 million dollars. No value has been created in the dividend payment, but investors are quick to praise the merits of a dividend-paying stock. I believe the flawed logic of this problem is ingrained in the dogma of investing…

 

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