Untaxed, dividends may boost stocks, multiply

TRIGAUX E-mail: Click here Archive

© St. Petersburg Times
published January 8, 2003

To many of the Tampa Bay area's public companies, President Bush's plan to abolish federal taxes on stock dividends is a wish come true.

If it happens.

Not only would tax-free dividends attract more investors to stocks' higher returns. But more companies that now pay no dividends now would be encouraged to start offering them.

Area financial executives say the revival of the once-maligned dividend has a side benefit: boosting the confidence of uneasy shareholders. How? By giving them more tangible and tax-free cash in their pockets from their investments. And taking a lesson from Enron, corporations would be less tempted by issuing dividends to dabble with excess funds in questionable ways.

"Going back to the basics is probably not a bad idea," says Robert Merritt, chief financial officer of Tampa's Outback Steakhouse Inc. and an advocate of Bush's dividend proposal. Twisted tax laws made it cheaper for corporations to borrow money (and deduct the interest on the debt) than to offer dividends that are, in effect, "double-taxed." That happens when a company first pays taxes on the profits it uses to pay dividends, then the recipients pay personal income taxes on the money.

Dividends are also counted as regular income for tax purposes, so they are taxed at regular income tax rates as high as 38.6 percent. Even capital gains, typically received when stocks are sold for a gain, are usually taxed at a lesser rate of around 20 percent.

The result? Merritt says many companies increasingly ignored dividends, binged on debt and got into trouble with bankruptcy and accounting woes.

Outback, which has cash aplenty, just happened to issue its very first dividend to investors last month. So the timing of a Bush economic stimulus plan that depends heavily on ending dividend taxes could not come at a better time for Merritt.

Of course, companies must pay dividends in the first place before their investors can benefit from any tax change.

While plenty of companies prominent in the Tampa Bay area do pay dividends, many others -- especially technology companies that grew fast in the 1990s -- do not. Two area giants, Clearwater's Tech Data Corp. and St. Petersburg's Jabil Circuit Inc., for example, generate billions of dollars in revenues annually but have opted to reinvest their funds in expansion rather than pay some of it out in dividends.

As the economy cooled, many companies found ways to pay their investors back -- not with dividends but with stock buybacks. By purchasing their own stock, companies helped raise the value of their remaining outstanding shares.

After the bursting of the tech bubble in 2000, the 2001 recession and current economic malaise, even the biggest tech companies are reconsidering the merits of a tax-free dividend. At software giant Oracle on Tuesday, the CFO said his company would probably reconsider its dividend policy if personal income taxes on them are repealed.

Tech Data's dusting off the idea, too.

"I do not think we will be among the first to implement a dividend," says Tech Data CFO Jeffery Howells. "But for those of us who have not paid dividends, and would not do so because of their double taxation, the proposal to eliminate the federal tax will bring it back to the forefront for our board to discuss."

Some smaller bay area companies that have paid dividends for years see Bush's plan to end dividend taxes as an exercise in common sense. Clearwater's Technology Research Corp., a maker of electrical safety products, just bumped its annual dividend from 4 cents to 6 cents to reflect its stronger operations. That increase would become all the more appealing if investors received it tax free.

"As we all know too well, people can manipulate earnings and revenues, but cash is cash," says Technology Research CFO Scott Loucks. If his company did not pay dividends, Loucks says Bush's plan to make them tax-free would prompt it to do so.

"If I were an investor, for my own protection I would invest more in those companies that would give me a dividend," he says. "At least I would get something back each quarter."

My, how times are changing. Investors once were wowed by the likes of Microsoft Corp., new-economy companies that bragged they had better things to do with their money than pay dividends. That scenario worked as long as their shares kept rising.

The sectors that would be most affected by Bush's proposed change to the tax law are energy, utilities and tobacco, all of which tend to pay out lofty dividends. At the top of Tampa Bay's list? TECO Energy's 8.6 percent yield ranks it among the top five S&P stocks in dividend payouts.

Maybe it's time for companies and investors alike to start rethinking their strategies.

Seven out of 10 companies in the S&P 500 pay dividends. But nearly two-thirds of all publicly traded companies do not pay any dividend whatsoever. Not yet.

Sure, if Bush's dividend plan gains momentum, we'll hear a lot of backlash about rising federal deficits and tax breaks for the rich. Time will tell how much this stimulus proposal really changes corporate dividend payouts, or boosts spending by the bulk of consumers who don't own thick stock portfolios and won't see more cash in their wallets from this tax break.

-- Robert Trigaux can be reached at trigaux@sptimes.com or (727) 893-8405.

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