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Dividend paying corporates destroy shareholder value

By Ray Lilley

Friday 24th March 2000

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Two out of three New Zealand companies lost shareholder value in 1998, with an estimated $6.5 billion cut from their combined net worth by poor performance.

ANZ Investment Bank research has shown 66% of companies are not covering the cost of capital resources, are unable to sustain returns and are shrinking the value of shareholder assets.

It has found this loss of shareholder value has been a long-standing problem for the economy.

ANZ head of corporate finance Joseph Healy believes a major part of the problem is reflected in the culture of high dividend payments. He called for a sharp reduction in the payout of annual dividends, which were "cutting into the muscle and future growth" of the firms.

"There is a clear link between the poor performance of ... corporate New Zealand and [of] the New Zealand economy," Mr Healy said in a paper on the performance of 500 top companies.

Although 95% of companies in this country paid a dividend each year, just 20% of US companies did. Microsoft had never paid a dividend, preferring to reinvest profits for future growth.

Continuing to pay dividends when eroding shareholder value demonstrated sub-standard performance often went unpunished by capital markets.

"We're arguing there is a failure in the capital markets, and we're using capital markets broadly here" to include the interactions between institutional invest-
ors, analysts, active investors, boards, management and the media, Mr Healey said.

"Capital markets almost don't trust management to profitably use surplus profit so they ask for it back."

It was a policy undermining the future health of many businesses.

High dividend levels resulted in lower investment levels, lower R&D, lower levels of risk-taking, less innovation and more short-term thinking and action.

In a market short of capital, companies should reinvest dividends into future growth.

At the start of the 1970s, some 85% of US companies paid regular dividends, a figure which had fallen to 20%. Mr Healy believed a fundamental review of dividend policy was essential in most local businesses.

The research showed New Zealand companies under-geared in debt terms.

It also found a correlation between firms with high debt levels and better shareholder value-added performance.

Leveraged management buyouts were often examples of debt becoming the discipline to remove waste and excess, and a way of reducing the erosion of shareholder value.

There was also the paradox of growth, which would make the company bigger but shrink the value of returns to shareholders.

Companies often had performance measures built-in which had no purpose in the daily running of the company.

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