If google doesn't pay a dividend, profits accumulate as cash which increases the value of the company (and hence the value of stock shares). In an efficient market, by keeping the cash, the value of the shares should increase by approximately the same amount as the dividend would have been. However, since the gains are the stock price they get taxed as long-term capital gains instead of income, and they only pay tax when they sell - letting exponential growth kick in. This means that the investor pays less in taxes.
Personally as an investor, I don't usually like companies that pay big dividends because it increases my tax liability. I'd rather invest in a company that has no dividend.
Sort of. The big question with dividends is "Can the company's shareholders invest that cash more profitably than the company itself can?" If the company is just going to sit on its cash and earn 3% in a money-market fund, and yet its shareholders could invest in other companies that get 20% returns, then the company should pay a dividend.
In Google's case right now, though, I don't think they should be paying dividends. The financial system is basically frozen, which means if they need cash for operations, they need to generate it internally. And Google's value as a going concern is significantly higher than the returns available in the rest of the stock market, or even bond interest rates. It makes sense to keep that cash inside the company, where it can be employed profitably, than to pay it out as dividends that'll be reinvested in other companies that are much less profitable.
It's worth noting that, in theory, an individual desiring a better return than the 3% the money market is giving them on Google's cash holdings can buy riskier things on margin secured by their Google stock. Google stock price should be safer because the cash on hand will provide a lower bound on the value of the company and so a large margin account is feasible. In fact, if you borrow exactly the amount that Google would have paid and invest it you can synthesize whatever cash holdings level you think Google should have based on your risk preferences and the rest of your portfolio.
This is roughly an application of the Modigliani Miller capital structure irrelevance theorem for the further interested.
1) Qualified dividends are taxed at long-term capital gains rates. At the moment there is no differential.
2) There is no economic difference in retaining the earnings because although undistributed earnings defer shareholder-level tax, the income from those earnings will remain subject to current corporate-level tax and will still eventually be subject to shareholder-level tax. On a net present value basis, the result is the same. I agree it's counterintuitive.
The key with capital gains is that you choose the timing of the tax, so you can wait to capture the gain until you have realized losses to offset them. These tax rates change around occasionally so flexibility in timing has value.
Personally as an investor, I don't usually like companies that pay big dividends because it increases my tax liability. I'd rather invest in a company that has no dividend.