Linear Tech Strategy

Safe proposal: Raise quarterly DPS by $0.01

This proposal is aligned with the strategy Linear has used from October 1992, when they announced their first dividend. In the past three years they have increased by $0.01 their dividends per share, paid quarterly.

What do these policies imply for cash holdings, shares outstanding, PPS, DPS, EPS, signaling, agency issues, taxes?

• This proposal will still leave a lot of cash on the balance for Linear, more than $1,500 Million dollars. However, due to an important decrease in the Net Income, the Net Cash Flow of the year is almost none, so even if they have a healthy cash flow balance they are not generating additional cash.
• Considering just this alternative, the shares outstanding will be 312.4 million, however they might be stock options exercise from the executive compensation and stock repurchasing as they have been doing from the past years.
• PPS (Price per share). When the dividend is announced, we expect the price to go down by the same amount Pcum – Pex = D, as dividends and capital gains are taxed equally. So, we project the price down from actual $30.87 (minus $0.06), the new price will be $30.81 this is the price of dividend announced, which will later adjust upwards when dividend is paid, and will return to $30.87 level (not considering other effects due to revenue impacts).
• DPS (Dividends per share). The new dividend per share will be $0.06 per quarter, considering the 312.4 shares outstanding, implies a dividend for the next four quarters of $74.97 million dollars, $18.74 per quarter. As the company decreased their net income in 2002, the payout ratio is now too high 27.32, we see revenues improving their pace at 15% on 2003, if these continues for the year end the payout ratio for the full year would be 28.8, including a $0.06 dividend for the 4Q 2003.  
• EPS (Earning per share). The actual 3Q EPS for 2003 is $0.55, if we consider the same trend for the business on the rest of the year, we can project a net income of $227 Million, giving an annual EPS for 2003 of $0.73.
• Signaling. This scenario will give the market and investors a clear message of consistency and commitment that the company will continue paying dividends in the future. On the other hand, maintaining a lot of cash for more than 4 consecutive years, could send a message that the company will be seated in a ton of cash because they don’t have profitable projects plans.
• Agency Issues. Maintaining the same strategy could generate a threat for the management from the stockholders, as they could feel that they are not giving the stockholders the benefits for the excess cash, and they don’t pursue new revenue driven projects. Executives with stock options will prefer to maintain this “safe proposal” as increasing a lot of dividends will hurt the stock price and by this their stock option value, as they don’t benefit from dividend payments.
• Taxes. Recently in 2003 the house of representatives approved that dividends and capital gains would be taxed at 15% instead of the previous highest possible of 38.6%, this is giving a benefit to the investors, so increasing in dividends will benefit more as the tax rate will be less that the previous years, so net profit for stockholders on dividends will increase.

Workout a “scenarios table” to gauge the basic payout problem Linear faces (without any frictions)