Dividends don’t have much to do with value, so should an investor ignore them? No: Dividends could be correlated with something that is important, earnings for example. Thus, while they are not a fundamental to focus on, they can be information about fundamentals. This is the “signaling theory of dividends.” It goes something like this: Firms maintain a higher dividend if they expect high earnings in the future to cover the dividend, so dividends are a “signal” of those earnings. But why would that be credible? Well, a firm dropping its dividend gets hit, so firms raise dividends only if they are confident of higher earnings; they don’t want to be caught lowering their dividend later because earnings don’t materialize.
On January 30, 2025, Walgreens Boots Alliance, Inc, the drug store chain, traded at a high annual dividend yield of 8.7%. The next day, on declining prospects, it announced it was suspending the dividend. The stock priced dropped by 10.3%.
As a signal, the dividend is just one indicator and an imperfect one at that. Many firms with good prospects pay no dividends. Berkshire Hathaway pays no dividends, and Meta Platforms (Facebook), Alphabet (Google), and Alibaba began paying dividends only recently.