Dividend reinvestment plans, in which companies allow shareholders to take their dividend payments in the form of shares, not cash, are known as DRIPs. This is appropriate, as the repeated issuance of those shares often represent a drip, drip, drip that ultimately dilutes the company's shareholders.
Clearly a number of the companies in Canada's energy sector have come to this conclusion. Part and parcel with the widespread dividend cuts and eliminations seen this year, a number of companies have also made their DRIPs less generous – or cancelled them entirely.
Crescent Point Energy Corp., Calfrac Well Services Ltd., Pengrowth Energy Corp. and Gibson Energy Inc. have all discontinued their DRIPs. Cenovus Energy Inc. and InterPipeline have eliminated the discount at which they issued DRIP shares. (A tip of the cap to dripprimer.ca, which alerted me to the companies that have made changes.)
It's odd, in a way, because paying a dividend in stock saves cash, which seems all the more important these days. Indeed, in calculating Canadian energy companies' ability to cover their dividends, analysts have long adjusted dividend payouts by the DRIP portion, arguing that the companies' cash outlay really wasn't as large as it seemed. PrairieSky Royalty, in starting a DRIP program in April, suggested it was a temporary program to ensure they wouldn't go for too long paying out more dividend cash than it could generate from its business.
What apparently has happened, however, is that companies have scaled back so drastically – cutting the dividend, ongoing expenses and capital expenditure budgets – that a DRIP is no longer a necessary source of cash savings. "What Crescent Point and Pengrowth did was cut their dividends and capex … to the point where they didn't need the DRIP," BMO Nesbitt Burns analyst Gord Tait said.
Instead, with share prices so low, often trading well below book value, the energy companies have decided DRIPs are hurting shareholders more than helping. "In consideration of current equity market conditions," Gibson Energy said in its August announcement, "the Company believes the continuation of these dividend reinvestment programs results in unwarranted dilution of its shareholders."
A bit of the mechanics: These plans allow shareholders to direct that their cash dividends be used to buy new shares in the company. In many plans, the shares get purchased at market prices; in others, the company reduces the price of the shares, say by 3 per cent. ("Stock dividend programs" – also getting cancelled along with DRIPs – are similar, but have certain tax advantages, particularly for the U.S. shareholders of Canadian companies.)
DRIPs are popular. Pengrowth says that in the first six months of 2015, it issued 4.1 million shares in its DRIP program, in which shares are sold at a 5-per-cent discount, for cash proceeds of $14.6-million, up from 3.8 million worth $26.4-million for the same period last year. (Note the sharp decline in the company's share price implied by these figures.) With 533 million shares outstanding at the end of 2014, Pengrowth added to its share count by a little less than 1 per cent in six months through its DRIP.
That may not sound like much, but it adds up. "I see the DRIP as another form of equity issue, and if the capital raised cannot generate an economic return that can grow per-share performance, then there is an inherent problem," Dirk Lever, of AltaCorp Capital, said. "Share count increases are forever, and by way of DRIP can be compounding. After a few years, the compounding can be rather significant."
Viewed this way, cutting the DRIP sounds good for shareholders – but, not so fast. Mr. Lever said "shareholders and management likely have opposing views. If the fair value of the business exceeds market, then shareholders want the DRIP, because they buy the stock cheaply. Management wants to sell stock when the price exceeds fair value." Arguably, we are in the scenario where shareholders want more chances to buy, not fewer.
And, of course, the more popular a DRIP is in terms of participation rate, or the more compelling a yield, the more likely the program is to get the axe, because it's more dilutive.
The shareholder advocate in me applauds the companies' focus on preventing shareholder dilution. The cynic in me, however, suggests that stockholders of a company that has eliminated a DRIP take a close look at their proxy circulars next spring, to see if stock-based executive compensation has also been reduced or eliminated. In many cases, shares issued in those programs are the big drippers – and that dilution is likely to continue even after a DRIP has ended.
David Milstead