Certified Financial Management Specialist Practice Exam

Under which policy do dividends remain after capital expenditures and working capital are paid?

1. Stable Dividend Policy

2. No Dividend Policy

3. Residual Dividend Policy

4. Hybrid Dividend Policy

The correct answer is: Residual Dividend Policy

The Residual Dividend Policy is formulated on the principle that dividends are paid to shareholders from the leftover profits after all profitable investment opportunities have been funded. Under this policy, a company first allocates earnings to cover capital expenditures and the necessary working capital requirements. Once these essential expenditures are met, any remaining earnings can then be distributed as dividends to shareholders. This approach emphasizes the importance of reinvesting in the company to maintain growth before considering dividend payouts. Therefore, dividends are variable and will fluctuate based on the investment opportunities available and the company's financial performance during a given period. By using this policy, a company aligns its dividend payments with its investment priorities, ensuring that capital is utilized effectively to generate future income. In contrast, other dividend policies might prioritize consistent payouts regardless of available reinvestment opportunities or profit margins, which could lead to less optimal capital allocation in the long run.