In 1975, Donald Cassidy bought 100 shares of a utility stock as a way to save for his children's college education. Today, the stock's price has not only increased, but Mr. Cassidy has over 200 shares of it, even though he hasn't actually purchased any additional shares.
Mr. Cassidy's growing stake in the utility came through an increasingly popular way for capital-intensive corporations to raise cash: dividend reinvestment plans (DRP). Instead of sending Mr. Cassidy a check for his quarterly dividends, the utility simply uses those dividends to buy additional shares in the company. This gives the utility more capital to operate and expand , and the Cassidy family gets more shares of the stock.
Mr. Cassidy's interest in this phenomenon goes beyond his children's education. As senior project manager at Arthur D. Little Decision Resources, a division of the Cambridge, Mass., research firm, he has been tracking the growth of DRPs in a variety of industries.
Shareholders in mutual funds have been accustomed to dividend reinvestment for many years. Utilities were the next industry to use dividend reinvestment, led by the Allegheny Power System in 1968, followed more recently by railroads, steel, chemical, oil companies, and banks.
In 1973, only about 150 of the companies listed on the New York and American Stock Exchanges offered these plans. Today, Mr. Cassidy reports, over 750 of the companies listed on these exchanges have them.
For the company, DRP offers a way to increase its current cash flow, an improved debt/equity balance through regular infusions of capital, less need for new equity offerings, the possibility of increasing the stock price by raising the dividend without having to pay out more cash, and increased loyalty among shareholders--presumably resulting from their increased stake in the company.
For the shareholder, the automatic reinvestment provides additional shares in the company without actually having to bother with a new purchase, avoiding or reducing brokerage costs, compounding of returns on the investment, and a higher effective dividend yield through a discount, if it is offered.
This discount is being offered by an increasing number of companies using DRPs, Mr. Cassidy points out. Shareholders using DRP get their new shares at a 5 percent discount from prevailing market prices.
There are, however, a couple of things to keep in mind if you are thinking of signing that card or form authorizing the company to put you on a DRP. If a periodic dividend check is one of the reasons you are buying the stock, then dividend reinvestment is not for you.
Remember, too, that the Internal Revenue Service likes people to pay taxes on dividends, whether or not they actually receive them. So you'll have to tap your savings to pay the taxes that otherwise would have come out of the dividends.
But there is a pleasant exception to this, included in last year's Economic Recovery Tax Act. Between 1982 and 1985, up to $750 ($1,500 for joint returns) on dividends reinvested in the new-issue stock of qualified utilities is exempt from federal income taxes. To qualify, at least 60 percent of the public utility's assets must be depreciable under the act's new 10--to 15-year schedule. Just about all electric utulities are likely to qualify, Mr. Cassidy says, while most telephone, gas, and water utilities (that have faster depreciation schedules) will not qualify. Looking for investments
I would like to invest my money in the safest but most profitable way possible. I am willing to take a chance as long as the odds are in my favor. Any information you can provide on this matter will be greatly appreciated. A.S.
What we have here is an investment issue that people have written volumes about. In fact, any person planning to invest money might be well advised to read some books on investment.
Research is the key to any successful investment program. Should you wish to invest directly in stocks yourself, then you'll want to do research into the industries that interest you and the companies in those industries that seem to have the best prospects. Which ones seem best suited to respond to coming economic and business changes? A stockbroker or trained financial adviser can help you with this question and make investments for you. You'll have to pay a commission or service fee, of course, but it will be worth the cost until you learn what you're doing.
If you don't want to spend the considerable time and money needed for first-class stock research, then you might try a mutual fund that will pool your money with money from many other investors and manage it all on a full-time professional basis. But you will want to do some research in choosing a fund or funds. Some funds invest in fast-growing but somewhat risky businesses, hoping for a big payoff later. Some stick with established, dividend-paying companies for people who want current income. Some buy a variety of income and growth stocks. Some invest in bonds. Others--lately the best-selling variety--invest in money market instruments like Treasury bills and bank certificates and short-term commercial loans. There are a number of services and publications to help you research mutual funds. One is the United Business Service Company, 210 Newbury Street, Boston, Mass. 02116. Its semimonthly Mutual Fund Selector is available for $65. Another is the Mutual Fund Almanac, P&S Publications, PO Box 411, Holliston, Mass. 01746. The price is $25.