One of the reasons why dividends can improve corporate governance is because they encourage restraint. If you are running the show at Procter & Gamble, and you know that the corporation has raised the dividend every year since 1963 and already has a commitment to paying out half of its profits to shareholders, then you feel some baked-in pressure from shareholders to do something intelligent with the retained earnings to make sure that the streak doesn’t end on your watch (e.g. CEO Jeff Immelt said cutting the GE dividend was the worst moment of his professional career.)
But that shareholder pressure can also apply in reverse. Especially in cyclical industries, there can be a shareholder pressure to keep the dividend high even if it means borrowing debt at high rates or selling off attractive pieces of the business. The consequences of this decision aren’t felt for at least five to … Read the rest of this article!