A Director’s Guide to Dividend Payments

Typically, shareholders gain profit through capital appreciation. As the business that they hold shares in grows, their shares go up in value, and they can then resell them for a higher price than what they originally paid of them. However, companies have the option to give shareholders dividend payments: a portion of the company’s profit that is usually in the form of cash or extra stock.

Dividends are a good way for business owners to reward loyal investors, signal strong financial health to potential investors and avoid excess cash buildup that could lead to poor spending choices. There are, however, some legal issues that directors should watch out for before they make any big decisions regarding dividends.

Determining vs Declaring Dividends

You may have heard these two terms used interchangeably. They are, however, two distinctly different ways of issuing dividend payments.

Declaring a dividend creates an immediate financial obligation and debt to the shareholders the moment that it is announced. Because the debt comes into place as soon as it is announced, it cannot be easily revoked. For this reason, declaring dividends often requires special powers and/or a group consensus as outlined in the company constitution, and the company must satisfy the requirements of Section 254T of the Corporations Act before declaring it.

Determining dividends is a resolution that a dividend will be paid at a future date. It gives directors the option to cancel or vary the dividend before the payment date arrives, subject to the terms of the resolution and the company’s constitution. Unlike declaring dividends, the company only incurs a debt to the shareholder when the scheduled payment date arrives. Determining dividends is the preferred method for most modern companies because of the flexibility it provides.

When a dividend is announced, the company needs to make it clear whether the dividend is being declared or determined. The specific wording of the resolution directly determines when a debt is owed.

Deciding Whether to Pay a Dividend

A company must comply with its constitution (if any) when paying dividends, and must always satisfy the requirements of the Corporations Act 2001 (Cth). Section 254T of the Act outlines the key requirements that companies need to meet before they can legally pay dividend payments.

• The company must have sufficient net assets. The company’s assets should not be exceeded by its liabilities, and the excess must be sufficient for the distribution. This assessment is made based on the company’s financial records.
• The dividend must be fair and reasonable to all shareholders. The payment should be consistent with the respective rights attached to each class of shares, and must be fair and reasonable to the company’s shareholders as a whole.
• The dividend must not significantly impact the company’s ability to pay future creditors. Directors should consider whether, after paying the dividend, the company will remain able to meet its debts as and when they fall due. This overlaps with directors’ duties regarding insolvent trading under the Corporations Act.

Conclusion

Under Section 180 of the Corporations Act, directors must comply with their statutory and fiduciary duties, including acting in good faith and in the best interests of the company as a whole. Companies should also act in accordance with the rules of their specific constitution. Under Section 180 of the Corporations Act, directors must comply with their statutory and fiduciary duties, including acting in good faith and in the best interests of the company as a whole. Companies should also act in accordance with the rules of their specific constitution. This article provides general information only and does not constitute legal advice. If you are a business director with any questions about dividend payments, please do not hesitate to contact us. We are here to help.

DISCLAIMER: This article is for informational purposes only and does not constitute legal advice.