When a public listed company turns a profit, it has two options. It can reinvest the profit in the business via reducing debt, buying back shares or expanding its business. Alternatively, it can pass its profits along to its shareholders. This is called a dividend.
The Dividend-Paying Process
Whenever a company elects to pay dividends, the decision has to be approved by the Board of Directors. This process has four key milestones that investors should note:
* Declaration Date
This is the date when the dividend payout is announced. The dividend to be paid is recorded as a liability in the business’s accounts and paying the stockholders becomes an obligation. The next two dates below are determined on the declaration date.
* Ex-Dividend Date
This is the cutoff date by which an investor must become a shareholder to be entitled to the dividend.
An example: Company A announces a dividend for its shareholders. If you purchased the stocks of Company A after the Ex-dividend date, you will not receive the dividend payout this round. Instead, the shareholder who sold the stock to you would be receiving the dividend.
* Date of Record
Usually 2 days after the ex-dividend date, the date of record is when the company looks at its list of shareholders to determine who will be receiving the dividend.
* Payment Date
This is the date when you will receive your dividends.
Understanding Dividend Yield
Depending on a company’s policies, it may choose to payout dividends annually, bi-annually or even quarterly. Some companies pay special dividends on certain occasion as well.
The Dividend Yield takes all these dividend payouts into account and reflects the yield on an annual basis.
That means if a company paying quarterly dividends pays $0.88 per share, it could have been in the form of four payments of $0.22 each.
Different types of Dividend Payouts
Cash Dividends
The most common type of dividend, these are regular cash dividends paid out to shareholders. As a shareholder, you can choose to collect these as income or reinvest these into the company. Check with your broker on your options.
Companies may have common stocks and preferred stocks.
One of the vital differences between these two forms of stock is how dividend payments are treated.
Payments to preferred stockholders always have priority, and all obligations to preferred stockholders must be met before profits can be paid to common stockholders. Generally, dividend rates on preferred stock are stable over time, while a company’s Board of Directors may adjust the dividend of common stock.
Property Dividends
Occasionally, the profits of a business are disbursed to shareholders in some form other than money.
These dividends can be literally anything from shares of a subsidiary company, physical commodities that the business trades in, products it creates, or even assets it owns.
Property dividends recorded in the accounts based on their market value on the day the dividend is declared.
Special Dividends
Dividends usually pay off in a consistent and predictable fashion, but exceptional circumstances may lead to a company paying out a special dividend.
Major cash surpluses coming from asset liquidation, divestiture, or litigation can lead to one-time dividends.
One-time dividends be in the form of cash dividends or property dividends.
High Dividends – Good Or Bad?
Depending on your investing goals, dividend paying stocks may be a good inclusion to your portfolio.
However, should we be wary of companies with high dividend payouts? Are high dividend stocks worth investing?
Let’s look at dividends from a company’s viewpoint.
You’ve slogged hard for the year and have been rewarded with your profits. What would you do with all that money now?
Should you reinvest it into your business to grow your business, pay it out to shareholders (who did not contribute much) or put it in the bank and pay taxes on it?
Most companies would reinvest profits to grow their business and hopefully provide better rates of return.
Again, depending on your investment goals, you may want to select companies that are more inclined to pay dividends.
Investors who want to build an income stream from dividends would prefer companies that are more inclined to pay steady dividends rather than wait for appreciation of their holdings.
Financial Figures for the Dividend Investor
If you are an aspiring dividend investor, here are some financial figures you would need to take note of.
Dividend Payout Ratio
Dividend payout ratio is the percentage of dividends paid out as compared to a company’s net income.
Dividend Payout Ratio: Total Dividends Paid / Net Income
This ratio is also used to project the growth of a company. The higher the dividend payout ratio, the lower the projected growth of a company.
Dividend Yield
Dividend Yield is determined by dividing the annual dividend by the stock’s current share price.
It gives investors an idea of how much they would end from the dividend payout as compared to the investment they make.
Many dividend investors focus too much on the Dividend Yield when selecting stocks. We believe that it is not a safe way to evaluate dividend stocks because dividend yield does not provide information such as the sustainability of the company as well as its performance.
Instead, we use a dividend investing method that combines features of value investing to allow us to pick proven stocks that have the potential to pay dividends over the long term.
