UK dividends are booming. Research shows that dividends payouts by companies have rocketed through one-off specials, but with an underlying growth that sees the prospects for 2021 expand significantly.

However, not everyone believes dividends are the best way to benefit shareholders or manage company capital.

Figures from Link Group, the financial technology company, show that dividends in the third quarter this year are up 89.2% year on year, to £34.96bn.

While that was driven by a rise in on-off special payments, especially from mining companies, Link says its UK Dividend Monitor reveals underlying dividends are also up by 52.6% to £27.7bn. Link now believes 2021 will see a rise on 2020 of 44.8% on a headline basis, with underlying dividends up by more than fifth to 22.4%.

According to Ian Stokes, managing director of corporate markets at Link, the figures show companies delivering more in dividends than expected at the beginning of the year. This is largely down to to the reopening of the economy, in the UK and abroad, following pandemic-induced lockdowns.

But Stokes observes that as each lockdown came along companies were progressively less affected, while they also took the opportunity to shore up their balance sheets either through borrowing, fresh rounds of equity issuance or cost cutting, including through suspension of dividends. “Dividend firepower is much stronger as a result,” says Stokes.

‘Inflexible’ approach

Dividends are widely viewed as unquestionably good, with newspapers, websites and magazines full of tips for investing in dividend paying companies. There is also a broad assumption they are necessary for pension fund investors needing regular cash income. Rarely is the idea of paying dividends itself questioned.

However, London Business School academic Professor Alex Edmans has recently questioned their unassailed virtue. In a series of articles last year for the Wall Street Journal, Edmans argued companies and investors are hurt by the current “inflexible” approach to dividends because companies using cash to payout to shareholders can only then spend what’s left over on “value-creating” investment. If dividends were more flexible, companies would first invest and then only pay what remains to shareholders.

He adds that a dividend payment reduces share prices while investors would do better to maintain their liquidity by selling shares. Buybacks, he says, are a more flexible capital management approach and a better way to send cash back to shareholders.

Observing the latest figures, Edmans warned “not to automatically interpret high dividends as good and low dividends as bad”.  Companies, Edmans says, should pay dividends if there are no opportunities for “productive investment opportunities”.

That said, we are unlikely to see any short-term adjustment in dividends policies. For now as companies recover from the pandemic, the debate will continue.