Dividend Policy at Linear Technology
Firms pay dividends for a multitude of reasons, such as the ability to make use of excess cash that stockpiles when a firm lacks enough viable investment opportunities with positive NPVs. Paying dividends can also send strong signals to investors of positive future earnings while rewarding them with immediate cash returns. From the market’s perspective, merely sending statements that a company is financially healthy doesn’t hold much weight. However, when a firm undertakes the costly action of issuing cash dividends, the message the firm sends is much stronger and more believable. It shows a certain level of expected financial stability since the ...view middle of the document...
Linear Technology announced its first dividend in 1992 in order to project its image as a less risky technology stock and broadening its investor base. Set relatively low with a dividend payout ratio of 14.6%, the firm’s management understood the risks of setting the payout too high. Studies have shown that investors greet dividend initiations favorably but quickly punish firms that cut its dividend in the future. Linear began by paying $0.00625 in dividends per share but steadily increased it about every four quarters by $0.00125. From 1997 to 2000, it increased it by $0.0025 every fourth quarter. After 2000, Linear started increasing its quarterly dividend by $0.01 each year. As of Q3 of 2003, LLTC pays $0.05 in dividends per quarter giving it a dividend payout ratio of 27.6%.
The firm’s management decided to increase the dividend in 2002 after the tech bubble burst in order to signal to investors that the firm remained confident in its business and had a positive cash flow. They also did not want to lose the income investors who lauded LLTC for its consistency. However, this put their payout ratio in the 25%-30% range. If Linear increased its quarterly dividend by another penny, it would bring it to a level well above those of other tech firms.
The current S&P 500 average dividend yield rate for Information Technology firms is 0.3%. In 2002, LLTC’s dividend yield was .54%. A penny increase in Q4 2003 will give LLTC a dividend yield of .68% in 03 if the stock price stays at $30.87 (Appendix 4). This is more than twice the average for similar firms.
In terms of share repurchases, Linear Technology has had purchases of $665.4 million in shares since 1993. There are two main reasons LLTC repurchases shares: to help offset employees exercising stock options and to adjust to market conditions. When employees exercise options, it increases the number of shares, diluting EPS. Management also pays attention to the valuation of LLTC stock, buying more shares when the interest it earns on its cash is lower than the value they can earn on their own undervalued shares. While Linear Technology usually allocates more money to dividends, they do occasionally allocate considerably more to repurchases when it makes sense.
Linear Technology designs and manufactures semiconductors. By operating in the analog segment instead of the digital segment, Linear needs significantly less financing than its digital competitors for creating its fabrication facilities; a cost differential of almost 1.8 billion. In addition, analog “fabs” last twice as long as digital ones, meaning Linear has modest R&D costs.
Linear being the conservative company that it is was careful not to sacrifice its margins for top-line sales growth. The firm was weighing the possibility of expanding its business into Asia, but due to the uncertainty caused by the Iraq war both domestically and internationally, Linear was hesitant to make this investment. This, coupled with Coughlin’s...