What are dividends?
Dividends are the profits that a company distributes among its partners or shareholders as a return on their investment. They are a portion of the profits obtained by the company that are distributed among the partners, depending on the number of shares they hold. The decision to distribute dividends reflects the company’s ability to generate profits and its reinvestment policy. At the Commercial Law Department of Belzuz Abogados, S.L.P., we consider dividends to be an important indicator of a company’s financial health. For many investors, dividend yield is a crucial factor in their investment decision, as it represents a source of passive income. In addition, a consistent dividend policy can attract investors seeking long-term stability and profitability.
How the Distribution is Made
The distribution of dividends is carried out by means of a resolution of the Company’s General Meeting. This resolution is based on the approved annual accounts, which must reflect sufficient profits to enable the distribution to be made. The process can be summarised in the following steps:
Closing of the financial year: At the end of the financial year, the annual accounts are prepared, including the balance sheet, the profit and loss account and the management report.
Approval of accounts: The General Meeting of Shareholders approves the accounts and decides on the distribution of profits. This meeting must comply with the necessary quorum for its decisions to be valid.
Distribution agreement: The total amount to be distributed and the amount corresponding to each share or participation is established. This agreement must be reflected in the minutes of the General Meeting.
Payment of dividends: Payment is made to shareholders or partners in the agreed form, which may be in cash or, in certain cases, in shares.
Distribution requirements
According to the Capital Companies Act, there are several requirements that must be met in order to distribute dividends:
Distributable profits: Dividends can only be distributed if the company has made sufficient profits and these have been approved in the annual accounts. The profits must be available after the necessary deductions for reserves and accumulated losses have been made. In addition, it should be noted that the net assets remaining after the distribution cannot be less than the share capital.
Legal Reserves: A percentage of the profits must be allocated to legal reserves, as indicated in Article 274 of the LSC, which establishes that at least 10% of the profits must be allocated to reserves until they reach 20% of the share capital.
Board Agreement: The distribution must be approved by the general meeting of shareholders or partners, which must meet the necessary quorum as established in the Company’s articles of association.
Types of Dividends
There are different types of dividends that can be distributed, including:
Cash dividends: The most common form, where amounts of money are distributed to partners or shareholders. This type of dividend is attractive to those seeking immediate income.
Stock dividends (exclusive to public limited companies): New shares are issued and delivered to shareholders instead of cash, increasing their stake in the company. This mechanism, known as a ‘scrip dividend’ or flexible dividend, is expressly provided for public limited companies in the Capital Companies Act. In limited companies, this type of dividend is not contemplated, given that these companies do not have shares but rather social participations, and the LSC does not provide for an equivalent mechanism for them. However, in S.L.s, similar effects can be achieved through capital increases charged to reserves.
Extraordinary dividends: Distributions made in exceptional situations, such as the sale of significant assets or in the event of extraordinary profits. These dividends are usually higher than ordinary dividends.
Interim dividends: Dividends may be distributed in advance on account of the profits for the current financial year, provided that certain legal requirements are met and an interim report is produced to justify this decision.
Key factors
At the Commercial Law Department of Belzuz Abogados, S.L.P., we assess various factors that are important and influential when deciding whether to distribute dividends in a company:
Company profits: The availability of profits is a crucial factor. Companies must have sufficient cash flow to cover dividend payments without compromising their operations.
Reinvestment of Profits: Growing companies often choose to reinvest their profits rather than pay dividends. This can be an effective strategy for increasing long-term value.
Market Conditions: The economic and market situation can influence the decision to pay dividends. During recessions or economic crises, companies may choose to reduce or eliminate dividend payments.
Investor Expectations: The expectations of partners and shareholders also play an important role. If investors expect regular dividends, a company may feel pressured to meet those expectations.
Tax Policy: Tax considerations can influence the decision to pay dividends. In some countries, dividends are subject to higher taxes than capital gains, which can affect the decision of shareholders and the company.
Conclusion
Dividend distribution is a regulated process and a fundamental aspect of financial management that seeks to balance the interests of shareholders and the sustainability of the company.
Understanding the different types of dividends, distribution policies, and the factors that influence the decision to distribute dividends is essential for both investors and business management. The Capital Companies Act establishes a clear framework that guarantees transparency and fairness in the distribution of profits, thus protecting investors and the company itself.
At Belzuz Abogados, S.L.P., we recommend proper dividend management, as it not only strengthens shareholder confidence, but also contributes to the long-term growth and sustainable development of the company. Ultimately, a well-structured dividend policy can be an indicator of a company’s financial health and strategy in the competitive business world.