THE Philippines is predominantly a family business market and most businesses were set up by the baby boomer generation (born after World War II). Expectedly, a significant chunk of family enterprises are going through a generational change in the next five to 10 years.
What is alarming is that most businesses remain unstructured with no formal holding company.
Being unstructured translates to a very informal organization with the senior founder, likely to be aged between 55 and 75 years old still calling the shots purely based on gut, employing traditional methods, and likely to be very discretionary.
Additionally, you add another equation where the next generation members in their 30s and 40s, likely to have a family of their own and with family needs increasing, the issue of dividends sharing becomes a nagging concern.
According to F. Visscher, for many family firms, the lack of a dividend policy is a serious omission at best, and a recipe for a shareholder-relations disaster—or a family feud—at worst.
He opines that a dividend policy formulated without consideration of other liquidity options, and outside the context of the company’s overall capital needs, is also a serious mistake.
Family goals and business goals are different
Visscher again articlulates that the lack of liquidity is one of the most common sources of discontent voiced by the shareholders of family firms. As the family and the business grow, the disparity in the financial and economic goals of shareholders increases. The shareholders active in management want the business to grow and the stock to appreciate.
They prefer to see “excess” cash reinvested in the business, rather than frittered away on dividends.
But the inactive shareholders tend to see their equity as an investment on which they are entitled to a return comparable with other investments. Oftentimes, they view the business as more of a cash cow than a long-term family enterprise, especially if they do not have other sources of income.
For starters, dividend policies should always form part of the shareholders’ agreement.
What is a good formula for crafting a dividend policy?
Just like my colleagues coaching family businesses in the ASEAN region, I am always confronted with the same question.
Many family businesses always assume that there is a “rule of thumb” for setting dividends. For all practical purposes, crafting a dividend policy is not easy. I have had coaching work in ASEAN where family leaders have a policy of not paying dividends. For some, they distribute all available cash.
So what then is a good formula? Fundamentally, the focus should be on what’s right for your family business and what can the business afford? How much do we need to reinvest back into the business?
A most common example is to budget a set percentage of profit after tax. The usual practice is a progression of increases starting with five percent, seven percent then 10 percent, but again the rate will depend on the financial health of the company.
I normally recommend that dividends usually start with a low rate. Just the same, I have listed the following “best practices” guidelines in setting up a dividend policy:
- A clearly articulated dividend policy is needed to establish expectations among shareholders/family members.
- Shareholders must be made aware as to when and under what circumstances the company will pay dividends.
- Shareholders must be made aware as to how much they can receive. I coached one family where dividend amounts have been pre-agreed in the beginning of the year and released in December.
- While a dividend policy might represent a compromise of interests, it is important that the policy is evaluated every year.
Who sets company dividend policy?
When should dividends be paid? To whom? How frequently?
How large should the dividend be?
How flexible should the policy be?