Share price's relation to company's financials?

[Jacksilver]

A 40% share would be incredibly significant in any major corporation. Major shareholders have the normally (as defined by the articles of incorporation for that company) have the power to elect board members and therefore have a direct influence on who the corporate officers are. Even if the articles stipulate that board members are elected by some other means, he who carries the big stick has much influence, even if not officially. Remember, the last thing any company management wants is a significant sell off of shares because it would signal to the market that those shares have dimished in value for some reason. This is exactly why any corporate officer is required by the SEC to report any trades of personally owned shares of stock. Also, major shareholders have the power to influence if dividends are paid out and also what percentage of net income should those dividends come from. These are the most basic influences I would cite.

Okay, so it's quite stunning! You don't actually get any money from owning this big chunk of the company's shares. Sure, you get plenty of respect and control over certain aspects of the company's inside politics. But, as my father would say, "you can't buy groceries with that".
If the company does not pay out dividends, is there any other financial benefit to be a "big chunk" owner? (Could, by law, the article of incorporation state that there will be no dividends?)

 

[OmCheeto]

Thanks for your input! I would like to clarify that my question (the first one, and it's variants later on) was not intended to state any form of concern or "beef" I have with the way the market operates. It really is an honest attempt to try and gap a hole in a very basic logical understanding of the thought mechanisms of players in the stock market. And particularly how these mechanisms are shaped by the rules of the game. It's a question about the very model of trading shares. The basic and intuitive motivation for people to make certain actions.

Well, it's probably way more complicated than you and I can imagine. There are quite a few very diverse sets of buyers and sellers that I've noticed. From the peanut gallery investors like myself, to the mult-giga buck investors like Goldman Sachs. And there are variations of each type. Looking at the top 10 investment picks from the pauper crowd that I hang out with, it looks like a mishmash of "These people know what they are doing" to "These people like Pepsi, so they invest in Pepsico".

So there is no single motivation, other than perhaps varying degrees and types of greed.

Types of greed, you may ask? Greed is about what people want. Most equate it with money, or big flashy shiny thingys. Although it is good not to be poor, I've never understood the motivation behind the effort involved in obtaining monstrous wealth. So I am probably not your typical investor. And as such, a poor choice for an example of "motivation" of why people invest the way they do.

I have invested in 8 stocks. The motivation is partially monetary greed of course. Though I would classify my investments more as "where I want the country to be in the next 10 years". My #1 and #2 stocks are, as far as I can tell, potentially the Apple Computer's of this decade. Someone else may have noticed this yesterday with their HUGE ALERT on #2. I expect #1 to jump 20% on Monday as well.

Look to the future. Buy educated low. Sell before the hysteria wears off high.

The share price's relation to a company's financial's is directly related to the perception of several hundred million people, who may, or may not, be as smart as you are.

 

[Ronnin]

Okay, so it's quite stunning! You don't actually get any money from owning this pig chunk of the company's shares. Sure, you get plenty of respect and control over certain aspects of the company's inside policy. But, as my father would say, "you can't buy groceries with that".
If the company does not pay out dividends, is there any other financial benefit to be a "big chunk" owner? (Could, by law, the article of incorporation state that there will be no dividends?)

Is there any benefit to owning a car that doesn't run? Not really, but you do own it and can do with it as you see fit. Would I buy a car that doesn't run? No, I would be looking for a car that functions well and delivers measurable utility (gets me to work, ect.). Same with owning a company, some are better than others. With managerial control you have influence that can make the value of the company grow or shrink. Money in and of itself is useless just like a share of stock until you trade it for something. Hopefully that trade nets something of greater value than what you traded for the money/stock in the first place.

There are many reasons to own equity in something. If you believe the equity in a certain company will appreciate in value greater over a given amount of time than say owning a bond paying a 6% annual coupon with comparable risk then the equity share would be a better investment. The whole reason people invest in things other than just holding the cash is there is a penalty for that. It's called inflation. People invest with the hopes that their money will grow vs. the almost certainty of it losing value by just holding on to it in a cookie jar. Even if you decide to invest in a commodity such as gold. You purchased it with the intent of reselling it at a later time at an appreciated value not so you can melt it down and make jewelry out of it (you could but that would incur an additional cost to do so and will reduce your net return). Everyone's investment style is determined by their investment goals and the amount of risk they are willing to take on to meet those goals.

As to the dividend issue, most company's hold their dividends as constant as possible because big swings can send signals to the market and may change sentiment regarding the value of the underlying stock. Like I said before, dividend policy is decided by management. I've never known of a company specifically restricting the payout of one in their charter.

 

[loseyourname]

I guess this thread has been dead a while, but yes, the theoretical value of a share of stock in a company is the present value of all expected future dividends. Theoretically, this extends into infinity, but practically, there is almost no difference between an annuity of greater than twenty years and a perpetuity, regardless of the discount rate, plus neither companies nor investors are immortal.

The decision to either distribute or not distribute a dividend is a complicated, but the simplest way to think of it is that a company will invest in all projects with a higher expected rate of return than their investors required rate of return (a weighted average of the required returns from common stock holders, preferred stock holders, and creditors). All net cash flows generated each quarter in excess of this invested capital is released as a dividend, so that, theoretically, equity holders can invest the money elsewhere in some form with a greater expected yield than the projects the company rejected.

High growth companies will not distribute dividends because there are many projects available to them with a greater return than the company's weighted-average cost of capital, but growth like that is not sustainable and all companies are expected to eventually distribute future dividends if they continue to exist.

Of course, the actual price you pay for a share of common stock is determined by market factors, but market factors mostly just means the price the marginal buyer is willing to pay. Practically speaking, large institutional investors are close to being price setters in the stock market, which is not anti-competitive because there are so many of them, but the price they are willing to pay is determined by an actual consideration of a company's risk and its expected future dividends. Because of this, so is the price you are able to get if you're an individual seller, or the price you're able to pay if you're an individual buyer.

So the actual price of a share and its fundamental price (the present value of all expected future dividends) are usually pretty close to each other, hence the efficient market hypothesis.

 

[OmCheeto]

I guess this thread has been dead a while, but yes, the theoretical value of a share of stock in a company is the present value of all expected future dividends.

So when is Berkshire Hathaway going to start paying dividends?

Berkshire Hathaway traces its roots to a textile manufacturing company established by Oliver Chace in 1839...
...
Berkshire's class A shares sold for $99,200 as of December 31, 2009 (2009 -12-31), making them the highest-priced shares on the New York Stock Exchange, in part because they have never had a stock split and never paid a dividend,

171 years is a long time to wait.

 

[brainstorm]

I think it would help this thread to note what money actually represents, i.e. labor hours. Yes, different kinds of labor cost different amounts per hour, but essentially what money is exchanged for is human labor. Even when the purchase is a commodity, the commodity is not given any of the money but rather the people involved with the re-distribution of the commodities ownership.

So, a good way to look at stock-investment is that you have a certain amount of human labor (other than your own) that is yours to direct as you wish. If you had a farm, you could direct the labor-hours to perform farm labor, for example, at your will. If you wanted people to weed, they would weed. If you wanted them to plant, they would plant.

However, since you don't want to manage the labor-hours you are entitled to, you can invest them in someone else's direction. When you buy apple stock, you are basically pledging a certain amount of labor-hours to the managers of apple to direct as they see fit. Your hope, of course, is that they exchange the labor-hours you give them for even more so that you can get even more for what you put in. It is a little like feeding the grain you have to your workers in hopes that the workers will make babies and you end up with more workers than you started with, which will eventually result in even more grain being produced, etc.

So, in fact, buying shares is not completely useless if you don't make money off them. You also provided people with some money (fiscal stimulus) to continue spending. The question is whether the labor they perform for the money you gave them ends up having a positive effect on the world or a negative one. Similarly, when they spend the money you invested in them, does the labor they buy have a positive or negative effect?

Granted, the global economy is so vast that it is difficult to trace the effects of labor exchanges but if you were, say, investing directly in farm workers, you would see that if you directed them to till and plant and weed, they would have these skills; whereas if you directed them to dance and sing, you would get entertainment and skilled artists with very poorly skilled agricultural capacities. Then they would probably tell you that you should get some other people to do farm labor so they would be able to buy food with the money they made by singing and dancing. You would do this because you would have no other way to get back the money you paid them to sing and dance. Congratulations, you went from being a broadway producer to a farmer/grower!

 

[loseyourname]

So when is Berkshire Hathaway going to start paying dividends?

The dividend method is just one way to arrive at a fundamental stock value. In the absence of dividends and the absence of any future expectation of dividends, you can find the fundamental value of the firm instead (value of non-operating assets plus present value of all future free cash flows), subtract the market value of all debt, and divide by the number of shares outstanding. That gives you the theoretical price you should be willing to pay for a share.

 

[mgb_phys]

The dividend method is just one way to arrive at a fundamental stock value. In the absence of dividends and the absence of any future expectation of dividends, you can find the fundamental value of the firm instead (value of non-operating assets plus present value of all future free cash flows), subtract the market value of all debt, and divide by the number of shares outstanding. That gives you the theoretical price you should be willing to pay for a share.

Indeed - a large pile of gold doesn't pay dividends, but isn't worthless!

 

[brainstorm]

Indeed - a large pile of gold doesn't pay dividends, but isn't worthless!

Gold is only worth what it can be exchanged for, or used for. A subsistence farmer won't trade food for gold if it means going hungry.