As anticipated, AOL (NYSE:AOL) revealed its plans to reward shareholders on August 27. Included in those plans was a $5.15 per share special dividend to be paid December 14 and a $600 million fixed-dollar collared accelerated stock repurchase agreement with Barclays Bank plc. An excellent use of its excess cash, long-time AOL shareholders continue to be rewarded by management.

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Stock Is Up

Yesterday's announcement stems from AOL selling 800 patents to Microsoft (Nasdaq:MSFT) in April for $1.1 billion. At the time of the sale, AOL CEO Tim Armstrong indicated that it would use a "significant portion" of the proceeds to reward shareholders. The good news boosted its stock 43% to $26.40 as of the April 9 close. Barron's quickly issued a sell recommendation based on the news suggesting its stock wasn't worth such lofty heights and would retreat in price soon enough. They seem to have gotten it wrong. It turns out that a significant portion was code for "100%" of the proceeds. AOL's stock closed up almost 3% on August 27, finishing the day at $33.86, up 28% from Barron's sell recommendation four months ago. Year-to-date, its stock is up 118% and less than 2% off a 5-year high. I think AOL has figured out that keeping shareholders happy is good business. Let's hope it sticks to that philosophy instead of making expensive acquisitions.

Dividend

The special dividend is a no-brainer. It's the best use of excess cash a company can utilize to keep shareholders happy. Even if its share price rises another 50% in 2012 to just over $50, the dividend yield for eligible shareholders will still be over 10%. That's huge. Some see this type of dividend as a form of bribery, but what else is it supposed to do with the money. If it implements a regular dividend, it's committed to delivering cash to shareholders on a quarterly basis, turning them into dividend junkies. On the other hand, the longer it keeps cash sitting on the balance sheet, the more likely it will be tempted to make a bone-headed acquisition like Facebook (Nasdaq:FB) did when it paid $1 billion for Instagram. By not implementing a regular dividend, it's giving itself some financial flexibility.

Win-Win

As for the share repurchase, I'm not a huge fan because companies normally overpay. However, AOL's done a reasonably good job in this department paying approximately $17.05 a share in the first quarter for the 2.1 million shares it repurchased. It didn't repurchase any shares in the second quarter. With the accelerated share repurchase agreement, it will pay $600 million to Barclays Bank who will then repurchase shares on the open market. Assuming the average price between now and the end of 2012 will be around $42, you can expect approximately 14.3 million shares to be repurchased or a 15% reduction in the diluted shares outstanding at the end of June. If so, the special dividend payment would be $74 million less. By initiating the share repurchase, it will save itself some cash while still rewarding shareholders. It's a win-win arrangement.

The Bottom Line

While Tim Armstrong and company continue to remake AOL, Monday's announcement gives shareholders some serious incentives to stick around. What happens to its stock price after December 5 is hard to determine. If it can announce reasonable results at the end of October then it's possible there will be little effect. At the end of the day, this bold use of cash sends a message that it needs very little to operate its businesses successfully. That has to be comforting to long-time shareholders.

At the time of writing, Will Ashworth did not own shares in any of the companies mentioned in this article.

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