Can declared dividends be suspended or cancelled?

One of the reasons to invest in stocks is for the potential dividend income, especially if the investor intends to hold onto shares for the long-term. Some companies regularly pay out dividends and have a dividend payout policy in place. Dividends can even be used by investors to determine the value of a stock using the dividend discount model, by getting the present value of all future dividend payments and comparing it to the current stock price. Dividends can be a regular source of income from stock investments, especially when the company does well and its dividend rate continues to grow.

Dividends are often distributed in cash, but can sometimes be in the form of stock or property. The Board of Directors, by majority vote, decides on how much will be allocated for cash dividends from unrestricted retained earnings. In the case of stock dividends, aside from majority vote of the board, the approval of at least two-thirds of the outstanding capital is required in order to declare stock dividends. Sometimes, when a company wants to pay out dividends, but does not have cash or stock to spare, they can give out tangible assets as property dividends, such as real estate inventories or even shares of stock in another company.

However, there are instances when a company might suspend payment of dividends. While it can be a signal of financial trouble which can trigger long-term investors to sell off their shares, in most cases, there are legitimate reasons when a company has to defer or suspend dividends payment.

But first, what is the difference between “deferred” and “suspended” or “cancelled” dividends? “Deferred” means that the board may have already declared dividends, but later realized that it will not be able to pay it on time, and thus deferred the payment to a later date. The company records this as a liability, and the shareholder is entitled to this amount until it is paid. “Cancelled” dividends, on the other hand, indicates that the company, which has previously declared dividends, will no longer be paying the expected dividends.

“Suspended” may refer to the act of declaration of dividends (as in the case of preferred shares where dividends are expected annually) or it may also refer to “suspension” of the payment of a previously declared dividend, but there is no new fixed date of payment stated.

The distribution of cash dividends is anchored on the availability of cash. In some cases, the company’s cash reserves may not be sufficient to cover the payout. This can be due to large capital expenditures to improve operations and thereby fuel the company’s growth. It may also be due to the need to preserve liquidity, especially in uncertain times such as during an economic downturn.

We came across a few companies who either cancelled their previous board action of declaring cash dividends and/or deferred the payment of the same. We urge those companies to please consider the following:

First, the right of the stockholders of a corporation to dividends becomes vested when the same has been declared and approved by the Board of Directors of the corporation. Upon declaration of cash dividends, the corporation becomes a debtor and the stockholders become creditors of the corporation. Thus, in the books of the corporation, a dividends payable account is set up as a liability, as well as the withholding tax payable if the stockholders are individuals or foreign corporations. Thus, it necessarily follows that neither the same board, nor their successors can afterwards consider their action and revoke the declaration of a legally declared dividend without the stockholders’ consent.

Second, as to deferment of payment of the dividends, we believe that the corporation may do so provided there are justifiable reasons. In any case, the proper thing to do is to inform its stockholders of the new due date stating the reasons for the deferment.

Finally, with regard to stock dividends already approved by the board, but not yet approved by the stockholders, we believe that the declaration may be cancelled or revoked by the Board of Directors without the consent of the stockholders before the actual issuance of the shares of stock. The reason for the difference is in the nature of the stock dividends. Unlike in the case of cash dividends, the amount to be distributed is severed from the general funds of the corporation and becomes the property of the stockholders pro rata as soon as the dividends are declared. In the case of stock dividends, all formalities have to be complied with first, especially if there is a need to increase the capital stock. Besides, in the case of stock dividends, there is no change in the proportionate equity ownership in the corporation and thus, the stockholders cannot consider the same as income on their part.

We urge the companies who took the same action of either cancelling or deferring the payment of dividends already declared to properly explain to their stockholders their reasons, and if necessary, get the consent of their stockholders.

In all these, companies are well advised to be transparent, to make sure such is the most viable course of action that must be taken given the existing conditions.

Rosario “Cherry” Bernaldo is a certified Public Accountant (CPA) and Lawyer, and is chairman and CEO of R.S. Bernaldo and Associates with vast experience in tax and management consulting, corporate and legal services, business and financial management, investment banking, insolvency and receivership, auditing, and training and research. She is the founding president of the Shareholders’ Association of the Philippines and currently serves on the Board of Trustees.

The views and opinions expressed in this column are those of the author/s and do not necessarily reflect the official policy or position of SharePHIL, nor purport to reflect the opinions or views of SharePHIL or its members.

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