Firms with excess cash positions can also elect to distribute the cash to shareholders in the form of dividends—although double taxation is a weakness to the high payout strategy. The firms pay corporate taxes when they earn the money and shareholders must pay taxes at their marginal tax rate when they receive the dividend. To avoid the double tax, many firms have chosen to use excess cash to repurchase shares on the open market. This helps to boost the share price in the short term by providing demand for shares. And with fewer outstanding shares, the same level of net income boosts earnings per share.

Firms with excess cash can also attempt to use the cash strategically to broaden their product lines or diversify into new areas. This can be accomplished either through direct capital investment or the outright purchase of another firm.

…To read more, please become an AAII member or login.