Discussion Topic: Dividend Payouts
Today we are going to discuss about Dividend Payouts. Here, we will explain What is Dividend? What is Dividend Rate? What is Dividend Ratio? How to calculate dividend rate and dividend ratio? and how the company decides on the dividend payout amount? Everything you need to know about dividends as a beginner investor.
What is Dividend in Stock Market?
Dividend refers to the distribution of a portion of company's earning to its shareholders. Dividends can be issued in various forms, such as cash payment, shares of stock, or any other form. The amount of dividend a company will pay is decided by its board of directors and it requires approval from the company's large shareholders.
But you must remember that it is not obligatory for a company to pay dividends. The company may take strategic decision for NOT paying any dividend. Alternatively, they may decide to reinvest their earnings to further expand their business or decide to pay their debt.
The board of directors has full freedom on choosing the dividend payout timeframes and payout rates. Dividends are usually paid out on a monthly, quarterly or yearly basis. It is also a common practice for the companies to issue special dividends either individually or simultaneously with a scheduled dividend. When a company announces the dividend payout, it also fixes a record date and all shareholders who are registered as of that date become eligible to receive dividend payout in proportion to their shareholding.
Dividends that are paid to the shareholders are not classified as an expense, but rather considered as a deduction of retained earnings. Hence, dividend payouts are not accounted on the income statement; rather it appears on the company’s balance sheet.
Investors often evaluate company’s dividend payouts by its dividend yield, i.e. - calculating the dividend in terms of a percent of the current share price. The dividend rate can also be quoted in terms of the amount you receive against each share that you own (also called as dividends per share, or DPS).
What is Dividend Rate?
The dividend rate is the total amount of the expected dividend payouts from a fund, investment, or portfolio expressed as a composite annualized income plus any additional non-recurring dividends that may be received during that period.
The dividend rate is computed by multiplying the most recent periodic dividend payouts with the number of periodic payments in one year. For example, if a stock investment pays a dividend of 10 cents per share on a quarterly basis and pays an extra dividend of 5 cents per share because of a non-recurring beneficial event, the dividend rate will be calculated as $0.45 ($0.10 x 4 + $0.05) per year per share.
Dividends are generally disbursed by companies that generate stable cash flows. Companies that are trying to expand their business typically reinvest all the profit back into the business, and hence, doesn't pay any dividend to shareholders.
What is Dividend Payout Ratio?
Usually, companies that issue dividends often prefer to maintain or slowly increase their dividend rates to demonstrate company's stability. Contrary to that, if a company is cutting down the dividend payout then it may indicate a weaker financial condition.
One of the best ways to find the answer to the above question is by calculating the dividend payout ratio. The dividend payout ratio is calculated as the dividend rate dividend by earnings per share (EPS) over a 12-month time period.
Dividend Payout Ratio = Dividend Rate / Average Yearly EPS
Steady but lower payout ratios are preferable for long-term investments since it means less portion of company's net income is going towards dividend payments. On the other hand, companies with high dividend payouts may face trouble in maintaining constant dividend payouts in long term.
Formats of Dividend Payment:
Cash Dividends: The most common form of dividend payout and are paid out in currency, usually via check payment or electronic funds transfer. Such dividends are considered as a form of investment income and are liable to tax payment. In this method, for each share you own, a declared amount of money is paid to you. Thus, if you own 100 shares and the cash dividend is 20 cents per share, then you will be paid $20 as a dividend payment.
Stock Dividend: This type of dividend is paid out in the form of additional stock or shares of the issuing company. These are also issued in proportion to shares owned by you (for example, for every 100 shares you own, an 8% stock dividend will issue 8 extra shares).
Stock Dividend Distributions: In this form of payout new shares are issued to limited partners in form of a partnership agreement.
Property Dividends (or dividends in specie): This is where dividends are paid out in the form of assets from the issuing corporation or another corporation, such as a subsidiary corporation.
Interim Dividends: These are the dividends that are paid out before commencing a company's Annual General Meeting (AGM) and making final financial statements. This type of dividends is usually reflected on the company's interim financial statements.
Other Dividends: Here, financial assets with a known market value are distributed as dividends. For large companies with subsidiaries, dividends can be issued as shares in a subsidiary company. This technique is mostly used to "spinning off" a subsidiary company from its parent.
Dividend Payout Policies:
There are numerous methods that a company use when deciding the dividend payout amount. Some of those methods are as follows:
Stable Dividend Policy: Irrespective of corporate earnings (high or low), stable dividend policy focuses on keeping a steady dividend payout.
Target Payout Ratio: Paying dividends in a targeted dividend-to-earnings ratio. Here, the goal is to pay a declared percentage of earnings, but in form of shares. Also, the "dividend share" payout is offered against a nominal amount that adjusts to its target as the earnings baseline changes.
Constant Payout Ratio: The Company decides to pay out a specific percentage of its earnings each year as dividend. Therefore, the amounts of those dividend payments vary directly with earnings.
Residual Dividend Model: Dividend payments are decided based on the company earnings, minus the funds the firm wants to retain to finance the equity portion of its capital budget. Thereafter, any residual profits are distributed among the shareholders.
We hope that you have enjoyed the above article illustrating the term Dividend with respect to the stock market investment. Be with us to explore forex trading, stocks trading, and other money-making opportunities.
Leave us some comments if you have any questions or doubts about Dividend, Dividend Rate, or Dividend Ratio. Also, let us know from which companies you usually receive decent dividend payouts.