Special Dividends

I received a notice from my stockbroker this week.  One of the companies in my portfolio has announced a special dividend of $1 per share, payable on December 28.

My first thought was "Woo-hoo!  Found money.  Christmas came early this year, baby."  Then I started to think about the implications of a special cash dividend.

When I read the company announcement in full, one thing I noticed was the timing.  They specifically wanted to do the payout before the end of 2012.  This is because tax rates on dividends are going to go up next year.  Even if the fiscal cliff is avoided by Congress and the President, a special surcharge on high income households will raise the rate from 15% to 18.5%.  If the Bush era tax cuts all sunset, and we revert to the tax rates in place 12 years ago, then dividends go back to being taxed as ordinary income.  For a taxpayer in the 25% bracket, that becomes the rate for dividend taxation.  So if you're going to pay dividends, this is the year to do it.

But a large special dividend tells you something else about the company.  It means they are sitting on a large stockpile of cash, and they do not have a better use for it then returning the profits to the shareholders.  Looking around, the management of the company does not see a lot of opportunities for profitable growth right now.  If they did, they would be  putting the extra cash to work.

I like cash flow as much as the next guy, but in the long run, growing the company is what the stockholders are paying management to do.  So this could be a warning sign that this company's best days are behind it.

Still, I won't lie to you, I do relish the idea of getting a big check in the mail.