Case 3 FIN500 Team 4: Jesse Galindo, Sulabh Gupta, Maggie Jones, ale !

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Dividend Policy at FPL Group, Inc.

Executive Summary Flo#ida $o%e# & 'ight Compan( %as )o#med in *+,5 th#ough the -onsolidation o) nume#ous ele-t#iand gas -ompanies. /)te# en0o(ing stead( g#o%th until the *+10s, F$' began e2pe#ien-ing ope#ating p#oblems and #edu-ed p#o)itabilit( due to )a-to#s li"e #ising )uel -osts and -onst#u-tion o3e#4#uns. To add#ess these p#oblems, Chai#man Ma#shall M-5onald de-ided to di3e#si)( into highe# g#o%th businesses and guided F$' to ma"e )ou# ma0o# a-6uisitions4 Colonial $enn 'i)e Insu#an-e Compan(, Telesat Cable3ision, C78 In)o#mation G#oup In-. and Tu#ne# Foods Co#p. F$' G#oup also established a #eal estate de3elopment subsidia#( -alled /land-o, and an alte#nati3e ene#g( subsidia#( -alled 9SI 9ne#g(.

To add#ess -omplaints )#om -onsume#s, F$' instituted a 6ualit( -ont#ol p#og#am inspi#ed )#om Japanese methodologies. 5espite all these mo3es, F$' -ontinued to )a-e unde#l(ing g#o%th p#oblems due to losses at Colonial $enn business, )ede#al -on-e#ns o3e# F$':s nu-lea# #ea-to# sa)et( and going o3e#boa#d %ith thei# 6ualit( -ont#ol p#og#am. James 7#oadhead su--eeded M-5onald in *+;+ and sta#ted de3eloping a long #ange st#ategi- plan )o# F$'. 7#oadhead simpli)ied the 6ualit( -ont#ol p#og#am. <e %anted F$' to )o-us on its -o#e business and made plans to sell se3e#al non4utilit( businesses that the g#oup held. 7#oadhead sta#ted an agg#essi3e -apital e2penditu#e p#og#am o) =>.> billion )o# e2pansion. To -ut -osts, 7#oadhead )lattened the o#gani?ation and eliminated about 4000 positions )#om *++* to *++3. 7#oadhead:s st#ategi- plans %e#e su--ess)ul and b( *++4 F$' be-ame the la#gest utilit( in Flo#ida and the )ou#th la#gest in the -ount#(. F$':s sales g#o%th e2-eeded the national a3e#age and this t#end %as e2pe-ted to -ontinue o3e# the ne2t )i3e (ea#s. Cali)o#nia p#oposal on #etail

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Case 3 @ F$' G#oup Team 4: Jesse Galindo, Sulabh Gupta, Maggie Jones,

FIN500 ale !lu"anmi

%heeling had a la#ge impa-t on the ele-t#i- utilities indust#(. Follo%ing Cali)o#nia, utilit( -ommissions o) ,3 othe# states %e#e -onside#ing #etail %heeling p#oposals. I) and %hen Flo#ida #egulato#s autho#i?ed #etail %heeling, F$' %ould ha3e man( potential -ompetito#s. 7ased on these ma0o# e3ents, S&$ #e3ised the #atings o) F$'. Me##ill '(n-h utilities anal(st %as do%ng#ading F$' G#oup due to the e2pe-tation that the F$' 5i#e-to#s %ill not -hoose to #aise the annual di3idend and %e#e -onside#ing #e3ie%ing thei# di3idend poli-(. F$' Management belie3ed that the di3idend pa(out #atio %as high gi3en the #is"s )a-ing the indust#(. Aate Sta#", the ele-t#i- utilities anal(st at Fi#st 96uit( Se-u#ities Co#po#ation, %as -ontemplating ho% to #e3ise he# #e-ommendation )o# F$' gi3en the #e-ent >B d#op in sha#e p#i-e and p#oposed -hange in di3idend poli-(.

1. Why do firm pay dividend ! What, in "eneral, are the advanta"e and di advanta"e of payin" ca h dividend ! Ta"ing into a--ount the man( theo#ies o) di3idend poli-( in-luding the 5i3idend I##ele3an-e Theo#em, the In)o#mation 9))e-t, The Clientele 9))e-t and Co#po#ate Cont#ol Issues, )i#ms should pa( out as di3idends Can( -ash )lo% that is su#plus a)te# the )i#m has in3ested in all a3ailable positi3e net p#esent 3alue p#o0e-ts.Di In some -ases, this ma( be a %a( o) sho%ing that the -ompan( is )inan-iall( stable and -apable o) )ul)illing di3idend obligations. It ma( also be a %a( )o# -ompanies to mitigate agen-( p#oblems %hen the( ha3e e2-ess -ash.

/d3antages o) pa(ing -ash di3idends in-lude: / signal o) the 3alue and stabilit( o) the business / means o) dist#ibuting e2-ess -ash The tenden-( to in-#ease sto-" p#i-es %hen announ-ed

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Case 3 @ F$' G#oup Team 4: Jesse Galindo, Sulabh Gupta, Maggie Jones,

FIN500 ale !lu"anmi

/ %a( o) "eeping manage#s in -he-" and mitigating agen-( p#oblems %hen high #etained ea#nings don:t ma2 out sha#eholde#s: 3alue

<ighe# p#opo#tion o) pension )undsE ta2 e2empt institutions a#e the sha#eholde#s

5isad3antages o) pa(ing -ash di3idends in-lude: Ta2ation at a highe# #ate than -apital gains 'imits on the g#o%th the -ompan( i) di3idends a#e paid instead o) -ompleting a positi3e N$F p#o0e-t. !n-e established the( a#e di))i-ult to eliminate and doing so %ill o)ten a))e-t the p#i-e o) the sto-" The( ha3e no impa-t on the 3alue o) a -ompan( and the sto-"holde#s -an C-#eateD di3idends b( simpl( selling the sto-"

#. Suppo e FPL $ill pay an annual dividend of %#.&' in 1((&, and a ume the mar)et ri ) premium *+, - +f. i /.01 and the ri ) free intere t rate i /.21 *the current yield on 234year 54 6ond from Exhi6it '., and FPL Group Inc. toc) i capital "ain yield of FPL toc)! ellin" at %2& per hare, $hat i the expected

92pe-ted -apital gains (ield G e2pe-ted #ate o) #etu#n 4 di3idend (ield

92pe-ted #ate o) #etu#n G i G 8) H I J8M 4 8)K I G 0.>0 J8M 4 8)K G 1.5B 8) G 1.3B

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Case 3 @ F$' G#oup Team 4: Jesse Galindo, Sulabh Gupta, Maggie Jones, i G 8) H I J8M 4 8)K G 1.3B H 0.>0 L 1.5B G 1.3B H 4.5BG **.;B

FIN500 ale !lu"anmi

5i3idend (ield G di3idendE p#i-e G =,.4;E=34.00 G 0.013 G 1.3B

92pe-ted -apital gains (ield G e2pe-ted #ate o) #etu#n 4 di3idend (ield G **.;B 4 1.3B 7 &.01

2. From FPL8 per pective, i the current payout ratio appropriate! Would a hi"her or lo$er payout ratio more appropriate! Explain and 9u tify your an $er 6a ed on information in the ca e. F#om F'$ g#oup pe#spe-ti3e the -u##ent pa(out is too high based on the in)o#mation p#o3ided in the -ase. It %as p#o3ided that the -ompan( %as pa(ing out in the #ange +0B o) its ea#ning. The -ompan( %ill be bette# o)) sa3ing those e2t#a ea#nings )o# the pu#pose o) #ein3estment, )utu#e e2pansion, o# un)o#eseen )utu#e -ompetition. /nothe# a#ea o) )utu#e -on-e#n )o# F$' is #etail %heeling, %hi-h has a -han-e o) being adopted b( Flo#ida, espe-iall( sin-e it -an potentiall( -ut into thei# )utu#e ea#ning, it %ill allo% -ustome#s to be able to bu( ene#g( )#om othe# supplie#s othe# than the monopol( supplie#. So it %ould be in the#e best inte#est to maintain a high #ese#3e in o#de# to p#ote-t themsel3es )#om )utu#e 3ulne#abilit(. &. From an inve tor8 per pective, i the FPL8 payout ratio appropriate! Explain and 9u tify your

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Case 3 @ F$' G#oup Team 4: Jesse Galindo, Sulabh Gupta, Maggie Jones, an $er 6a ed on information in the ca e.

FIN500 ale !lu"anmi

/--o#ding to the -ase, the pa(out b( F$' is app#op#iate. The -ase )u#the# emphasi?ed that in3esto#s a#e used to getting high pa(outs )#om the utilit( -ompanies. 'oo"ing at the -ase, it %as #epo#ted that a)te# F$' announ-ed the -hange in di3idend poli-( on Ma#-h 3#d, *++4, that it %ould be di))i-ult to in-#ease the di3idend. Then on Ma( +th, *++4 F$' announ-ed the di3idend -ut %ith the sto-" #epu#-hase p#og#am and the sto-" p#i-e )ell =43.15 to =,1.50. Then on Ma( 3*st, F$'Ms sto-" -losed at =3,.*1, o# about 30 -ents highe# than the p#e4announ-ement p#i-e. !ne (ea# late#, F$'Ms sto-" p#i-e -losed at =31.15, gi3ing sto-"holde#s a #etu#n o) ,3.;B. Finall(, almost t%o (ea#s late# on /p#il *, *++> F$'Ms sto-" %as t#ading at =45.,5, %hi-h p#o3ided sto-"holde#s %ith a post4announ-ement #etu#n o) 5,.+B. In3esto#s #an )o# -o3e# be-ause the( %e#e not used to this t(pe o) announ-ement )o# this se-to#, so su-h ne%s is -onside#ed as being negati3e ne%s, espe-iall( )o# a -ompan( that has steadil( in-#eased di3idends pa(out )o# the past 4;(#s. !n the othe# hand on-e in3esto#s see that F$' %as #epu#-hasing its sto-"s, this ga3e them the in)o#mation that the sto-"s a#e health( and %ill be in-#easing in the nea# )utu#e o# else %h( %ould the( be #epu#-hasing i) F$' is not stable.

ItMs also possible that this %as a st#ategi- mo3e on F$'Ms pa#t to -ut di3idend %hi-h b#ought the sto-"Ms p#i-e do%n, and then #epu#-hase the sto-"s %hi-h gi3es in3esto#s that a#e %aiting on the )en-e the -on)iden-e to 0ump in and bu( the -ompan(Ms sto-"s, %he#eas in a-tualit( the -ompan( is unde#going )inan-ial t#ouble.

0. : ;ate Star), $hat $ould you recommend re"ardin" inve tment in FPL8 hold!

toc) - 6uy, ell, or

/ #e-ommendation )#om Aate Sta#" %ould be based on the C%hat4i)sD in the )ollo%ing %ee"s @ on the

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Case 3 @ F$' G#oup Team 4: Jesse Galindo, Sulabh Gupta, Maggie Jones,

FIN500 ale !lu"anmi

)en-e bet%een the o#iginal #e-ommendation to hold, and the possibilit( o) )utu#e out-omes leaning to%a#ds bu(ing. /s Me##ill '(n-h had stated in thei# #epo#t in the beginning o) the a#ti-le, F$' seems to ha3e no intention to #aise the annual di3idend abo3e =,.4;. Coupled %ith the )a-t that F$':s management #e-ogni?es the )a-t that thei# di3idend pa(out le3els a#e high Jthough -onsistent %ith the indust#( a3e#ageK, it ma"es mention o) t%o %a(s to add#ess the high pa(out le3els: to g#o% out o) a high pa(out, and to -ut di3idends. Though Me##ill '(n-h ended b( sa(ing that the( %e#e e2pe-ting the di3idends to #emain, thei# assumption %ould be based on the histo#i-al )a-t that F$' has had a 41 (ea# st#ea" o) #etu#ning an in-#ease in di3idends, and the -ompan( %ould be unli"el( to di))e#. <o%e3e#, the bigge#, mo#e p#o)itable pi-tu#e must be loo"ed at, #athe# than the immediate.

/ <old #e-ommendation %ould be suitable onl( in the -i#-umstan-es that F$' ma"es no mo3es in #ega#ds to di3idends, and that the un-e#taint( su##ounding the -ompan( and its indust#( #emains mu#"(.

<o%e3e#, F$' should be -onside#ing its possibilit( o) p#o)itabilit( long into the )utu#e, and the -ompan( al#ead( #e-ogni?es one main )a-to# %hi-h is holding it ba-": di3idends. Fo# )utu#e g#o%th, it %ould be best that the -ompan( -ut di3idends b( the theo#i?ed 30B. 7( doing this, sha#e p#i-es %ould d#op as the ma#"et %ould #ea-t negati3el( in #ega#ds to the #edu-tion, allo%ing the -ompan( to #epu#-hase a substantial amount o) thei# outstanding sha#es at lo%e# p#i-es. Follo%ing this, the p#oposed sa3ings o) o3e# =*50 million e3e#( (ea# %ould allo% )o# F$' to #epa( its debt, gi3ing it g#eate# )inan-ial )le2ibilit(, and allo%ing )o# mo#e )#ee -ash )lo%. The )o#eshado%ing o) this possibilit( %ould be the >B d#op in F$' @ g#anted it -annot be -on)i#med i) this is in #ea-tion to the ne% #epo#ts, this -ould be the p#e-u#so# to )utu#e e3ents. I) things %e#e to )ollo% as su-h, F$' %ould be able to g#o% at )aste# #ates than e3e# be)o#e, #e-o3e#ing its di3idends b( *++; and the#e)o#e ma"ing thei# in3esto#s mo#e p#o)itable in the end.

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Case 3 @ F$' G#oup Team 4: Jesse Galindo, Sulabh Gupta, Maggie Jones,

FIN500 ale !lu"anmi

This, i) it %e#e the -ase, %ould %a##ant a C7u(D #e-ommendation.

5espite this, the p#e3iousl( stated possibilities a#e 0ust that @ possibilities. Sin-e nothing has been -on)i#med, neithe# in the a))i#mati3e o) di3idend -uts no# g#o%ing out o) a high pa(out, it %ould be #ash )o# Sta#" to #e-ommend an(thing but C<old.D Sin-e F$' #emains at a stable )inan-ial position, and Sta#" still belie3es that F$' %ill #etain thei# di3idends at =,.4;, the#e is no #eason )o# an(thing but a <old #e-ommendation until the#e a#e -on)i#med #epo#ts o) di3idends being -ut.

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Co#nett, Ma#-ia, /dai#, T#o(, and No)singe#, John. Finan-e: Theo#( and /ppli-ations. ,00+: Nnited States. M-G#a%4<ill I#%in. p. 4+5.