To pay out or not to pay out: special dividends unpacked

A special dividend is a one-time payment made by a company to its shareholders that is separate from the regular dividend cycle. It’s typically issued when a company has excess cash or has had an exceptionally strong financial performance, such as from:

• Selling a major asset or business unit.
• Accumulating large cash reserves.
• Experiencing unusually high profits.

As an example, in 2019, Wesfarmers (ASX: WES) paid a special dividend of $1.00 per share following the sale of its Coles supermarket business. While unlikely this year, Westfarmers is a company with a history of returning capital to shareholders through special dividends after major divestments. 

Harvey Norman (ASX: HVN) has also issued special dividends in the past. In 2021, Harvey Norman declared a special dividend of 20 cents per share following strong profits and cash flow driven by unexpectedly robust retail sales during the COVID-19 pandemic.

The Key Characteristics of Special Dividends are:

• Non-recurring: Unlike regular dividends, they are not expected to be repeated.
• Larger than usual: They are often significantly higher than regular dividends.
• A signal of financial strength: They can indicate that a company is confident in its financial position.

Special, but not common

Special dividends are not common, but are not rare either. They are paid when a company has excess capital: an asset has been sold, cash flows have been strong and funding capacity well above requirements, typically with a strong balance sheet or to distribute franking credits prior to a takeover.

In terms of where they are more likely to be found, cyclical companies can have years of very strong cash flows that are unlikely to be recurring and are prime candidates for special dividends. Boards want to return capital to shareholders but also want to be clear that shareholders should not expect this level of dividend to be ongoing.

Rio Tinto (ASX: RIO), for example, paid significant special dividends from 2019 to 2022. They fixed the balance sheet post the iron ore crunch of 2015/16, lowered capex, and were harvesting great profits from a high iron ore price. The board wisely returned to surplus cash, but it was clear this level of distribution was not sustainable.

Target special dividends?

Dividend policy impacts the liability side of the balance sheet, so it can lift ROE, but doesn’t change the ROI of a company. If a company doesn’t have attractive investment opportunities and the balance sheet is starting to look lazy, a special dividend can make a lot of sense. 

It also demonstrates that a board takes shareholder funds seriously and the market is more likely to support that company in future endeavours. 

In our view, a special dividend should not necessarily be a target in the investment process, it is more an outcome from buying a portfolio of companies with strong balance sheets and strong free-cash-flow generation.

An ASX name that might pay a special dividend

Super Retail Group (ASX: SUL) has paid a special dividend at the last two financial year results, and we suspect there may be a possibility for a third. SUL is the operator of prominent retail brands such as Supercheap Auto, Rebel, BCF, and Macpac. 

The business is stable, has a solid balance sheet, and if anything, investment demands may be tapering slightly with the completion of the new distribution centre at Truganina in Victoria. This state-of-the-art facility is expected to significantly enhance the company's supply chain efficiency by consolidating operations, improving inventory management, and reducing logistics costs.

Chart – Super Retail Group Dividend Per Share

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