Can you explain the term residual dividend theory?

A residual dividend is a method of calculating dividends. A dividend is a payment made by a company to its shareholders. It is essentially a portion of the company's profits that is divided among-st the people who own stock in the company. A residual dividend policy is one where a company uses residual or leftover equity to fund dividend payments. Typically, this method of dividend payment creates volatility in the dividend payments that may be undesirable for some investors.

Companies that use the residual dividend policy first use the cash flow to fulfill necessary capital expenditures and the remaining amount available (the residual) is paid out to shareholders. Also, if the company is maintaining a certain target debt to equity capital structure, then the full amount of the capital expenditure will not be paid entirely by equity but also with part debt.