What is a Dividend?
A dividend is issuing some of a company’s earnings to a class of its shareholders, as determined by its board of directors.
Typically, Common shareholders of dividend-paying companies are eligible if they own the stock before the ex-dividend date. Dividends might be paid out as cash or in the form of additional stock.
The shareholders must approve dividends by their rights of voting. However, cash dividends are the most ordinary dividends that can also be issued as stock or other property shares.
Along with companies, exchange-traded funds (ETF) and various mutual funds also pay dividends.
A dividend is a token that was rewarded for paying the shareholders for their investment in a company’s equity. It usually originated from the net profit of a company.
While the vital portion of the profits has been kept within the company as retained earnings, representing the money to be used for the company’s ongoing and future business activities, the remainder has to be allocated to the shareholders in the form of a dividend.
At times, companies might be still making dividend payments even when they are not making suitable profits. They may do so for maintaining their established track record of receiving regular dividend payments.
The board of directors can also choose for issuing dividends over various time frames and with different pay-out rates. Dividends can also be paid at a scheduled frequency, such as monthly, quarterly, or yearly.
E.g., Walmart Inc. (WMT) and Unilever (UL) was making regular quarterly dividend payments.
Companies are also able to issue non-recurring special dividends, either individually or additionally to a scheduled dividend.
Backed up with strong business performance and having an improved financial outlook, Microsoft Corp. (MSFT) declared a special dividend of 3.00 USD per share in 2004, way above the ordinary quarterly dividends in the range of 0.08 USD to 0.16 USD per share.
Companies which is paying dividend
Largely, more established companies with more expected profits are often can be the best dividend distributers.
These companies can be tend to issue regular dividends because they seek for maximizing shareholder’s wealth in ways apart from normal growth.
Companies in the following industry sectors have observed for maintaining a regular record of dividend payments are:
- Oil and gas.
- Banks and financial.
- Healthcare and pharmaceuticals.
- Companies structured as a master limited partnerships (MLP) and a real estate investment trusts ( i.e. REIT) are the top dividend payers since their designations which are required can be specified distributions to shareholders.
Funds may also be issued regular dividend payments as it is stated in their objectives of investment.
Start-ups and other high-growing companies, such as those in the technology or sector of biotech, maybe not offering regular dividends.
Because these companies may be in the prior stages of development and may incur high costs and losses attributed to research and development, expansion of business, and operational activities, they might not be having sufficient funds for issuing dividends.
Even companies that are profit-making early- to mid-stage avoid making a dividend payments if they are in aiming for a higher-than-average growth and expansion and want to make investments in their profits back into their business rather than taking the option of paying dividends.
Important dates of dividend
Usually, Dividend payments go after a chronological order of events, and the associated dates are important to determine the shareholders who qualify for the dividend payment.
Date of Announcement: Dividends are normally announced by company management on the particular date of announcement date and this must also be approved by the shareholders before they can be paid.
The date on which the dividend is eligible and expires is known as the ex-dividend date or another type a simply the ex-date.
For instance, if any stock has an ex-date of Monday, May 5, then shareholders who are buying the stock on or after that day would not qualify for getting the dividend as they are also buying it on or after the expiry date the dividend.
Shareholders who mainly own the stock one business day before the ex-date that is on Friday, May 2, or earlier that can receive the dividend.
Date of Record: The record date is the cut-off date established by the company to determine which of a shareholders are normally eligible to receive a dividend or distribution.
Payment date: The Company issues the dividend payment on the payment date, which is when the money is credited into investors accounts.
Since dividends are basically irreversible, their payments typically lead to money going out of the company’s books and business accounts forever.
Therefore, dividend payments can impact share price, which may be arise on the particular announcement approximately by the amount of any dividend declared and then declined by a similar amount at the opening session of the ex-dividend date.
For example, a company trading at 60 USD per share declares a 2 USD dividend on the announcement date.
As soon as the news is spreading among the public, the share price shoots up by around 2 USD and hits 62 USD. Say the stock trades at 63 USD one business day before the ex-dividend date.
The ex-dividend date is adjusted by 2 USD. It begins trading at 61 USD at the starting of the trading session on the date of ex-dividend because anyone buying on the date of ex-dividend will not receive the dividend.
It should be well-known that the only guarantee is the price adjustment lowering the share price by the dividend on the ex-dividend date.
Why Companies are Paying Dividends ?
Companies that are paying dividends for a variety of reasons. These reasons could have different implications and interpretations for investors.
The shareholders can expect dividends as a reward for their trust in a company.
The company management will aim to mainly honor this type of sentiment by delivering a strong track record of dividend payments.
Dividend payments may reflect positively on a company and help maintain investors’ trust. Shareholders also prefer dividends because they are treated as tax-free income for shareholders in many countries.
Conversely, capital gains are realized by selling a share whose prices have increased and have been considered taxable income. Traders looking for short-term gains may also prefer getting dividend payments that offer instant tax-free gains.
A dividend with a high-value declaration can indicate that the company is doing well and has generated good profits.
But it can also specify that the company is not having suitable projects for generating better returns in the future. Therefore, it is utilizing cash to pay shareholders instead of just reinvesting it into a growth.
If any company has a vey long history of a dividend payments, reducing the dividend amount or its elimination may signal investors that any company is in trouble.
If There is a announcement of a decrease about 50% in dividends from a General Electric Co. (GE), which is one of the biggest American industrial companies. It was accompanied by a decline of more than six per cent in GE’s stock price on November 13, 2020.
A deduction in dividend amount or a decision against any dividend payment might not necessarily be translated as negative news about a company.
It might be possible that the company’s management has better plans for investing the money, given its operations and financials.
E.g., a company’s management might choose to invest in a high-return project that can magnify returns for a shareholders in the long run, as compared to the petty gains they would be realized through dividend payments.
A Note about Fund Dividends
The dividends which funds pay can be different from dividends paid by companies. Usually, company dividends are paid from profits that have been generated from the operation of the company’s business.
Funds work on the principle of NAV (Net Asset Value), which helps reflect the valuation of their holdings or the price of the assets that are funding and may be tracking.
Since funds do not have any intrinsic profits, they pay dividends that are sourced from their Net Asset Value.
Due to the Net Asset Value based working of funds, regular and high-frequency dividend payments should not be misunderstood as a high performance by the fund.
E.g., a bond-investing fund might pay monthly dividends as it receives money in the form of monthly interest on its holdings interest-bearing.
The fund is only transferring the income from the interest partially or fully to the fund investors. A stock-investing fund may also be paying dividends.
Its dividends may come from the dividends received from the stocks held in its portfolio or by selling a certain quantity of stocks.
It’s likely that the investors who are receiving the dividend from the fund are lowering their holding value, which is reflected in the reduced Net Asset Value on the date of ex-dividend.
Are Dividends Irrelevant?
Well- Known economists Merton Miller and Franco Modigliani argued that a company’s dividend policy is irrelevant. It does not affect the value of a firm’s stock or its cost of capital.
Theoretically, a shareholder may endure indifferent to a company’s dividend policy. In the case of payments of high dividends, they could use the cash received to buy more shares.
Reinvesting dividends is particularly a smart choice, though it isn’t always the best option. For instance, in low payments, they can sell some shares to get the necessary cash they need.
In either case, the combination of an investment in the company and the cash they are holding will remain the same.
Miller and Modigliani thus concluded that dividends could be irrelevant, and investors should not care about a firm’s dividend policy since they are creating their own synthetically.
However, in reality, dividends let money be made available to shareholders, giving them the liberty to derive more utility. They can also invest in other financial security and reap higher returns or spend on leisure and other utilities. Additionally, costs like brokerages, taxes and indivisible shares make dividends a considerable utility in the real world.
Dividends can also help for offsetting costs from your broker and your taxes. Ultimately, this could make more attractive dividend investments.
Of course, to get an invested in a dividend-earning assets. Basically one would need a stockbroker.
Buying Dividend-Paying Investments
Investors seeking dividend investments have several options, including stocks, mutual funds, exchange-traded funds (ETFs), and more.
The model of dividend discount or the Gordon growth model can help choose stock investments. These techniques are relying on the anticipated future dividend, which is streamed to value shares.
Mainly to compare with multiple stocks based on their dividend payment type of performance. Investors can use this dividend yield factor, which are measures the dividend in terms of a per cent of the current market price of the company’s share.
The dividend rate can also be quoted based on the dollar amount each share receives– DPS (Dividends Per Share).
In addition, to yield dividends, another important performance that is measured for assessing the returns generated from a particular investment can be the total return factor.
This figure accounts for dividends, interest and rise in share price, among other capital gains.
Tax is another important consideration when investing in dividend gains.
Investors in high tax brackets are observed for preferring dividend-paying stocks if the jurisdiction is allowing zero or as comparatively lower tax on dividends than the normal rates.
E.g., Slovakia and Greece have a lower tax on a dividend income for a shareholders, while the dividend gains are usually tax-exempt in Hong Kong.
Important points for Dividend
A dividend can be the distribution of some of a company’s earnings to a class of its shareholders, as its board of directors determines it.
Dividends are payments made by publicly-listed companies to reward investors for putting their money into the venture.
Announcements of dividend pay-outs are generally accompanied by a proportional increase or decrease in a company’s stock price.
Frequently Asked Questions
What is a dividend?
A dividend can be the distribution of cash or stock to a class of shareholders in a company. Typically, dividends can be drawn from a company’s retained earnings ; however, issuing dividends with negative retained income still can be possible but less common.
Dividends which are carrying important dates, which determine whether or not shareholders will receive dividend pay-out.
First, the ex-dividend date can be the last date eligible for receiving the dividend expires; most often, it can also occur by one business day before the date of record.
Second, the date of record is when the board of directors determining which shareholders will also receive dividends, along with a relevant financial information which related to the dividend pay-out.
Why are dividends important?
While dividends can indicate that a company has stable cash flow and generates profits, it can also provide recurring revenue to investors.
Dividend pay-outs might also help in providing insight into the intrinsic value of the company. Many countries are also offering preferential tax treatment to dividends where they have been treated as tax-free income.
In contrast, when any investors sell stocks at a profit, they realize capital gains, which may be as high as 20%.
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