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The Beginner’s Guide: How Dividends Work

A dividend can be described as a certain amount of money paid by a company to its shareholders depending on the profit made during that particular fiscal quarter. While this seems like an interesting option, it is important to choose reliable dividend-paying stocks.

The profit made by the company is a major factor in how much dividend is paid out to the investors in the company.

One part of the profit is kept aside for the future growth of the company and the rest is dispersed amongst the shareholders. Interestingly, companies do not prefer to reduce the amount they pay as dividend per share as this could lead to panic among the shareholders about the situation of the company. In the worst case scenario, it might even lead to plummeting share market prices.

What Are Dividend Yields

The return offered by any share index or stock is measured using the dividend yield. It can be described as the latest annual dividend obtained by dividing the current share price as a percentage. For example, in the annual dividend is 10p per share, and the share price is £1.00, the yield is 10p/£1 as a percentage, so 10%.

Important Dates To Remember

Dividends need to be approved by the company’s Board of Directors before they are paid out to the shareholders. The following dates play an important role in when the dividend revenues will be paid:

  • Declaration date: This is the date on which the Board of Directors will announce that they intend to pay a dividend. On this date, the Board will put forth a payment date and a date of record.
  • Date of record: Only the shareholders will receive the dividend on or before the date of record.
  • Payment date: This is the date that the dividend is actually paid to all the shareholders.

What Is Dividend Pay-out Ratio?

The dividend pay-out ratio can be described as the percentage of the net income that is paid out as a dividend. The dividend pay-out ratio and the retention ratio are often used to project the growth of the company.For example, if a company had a net income of £4 billion and paid £2 billion in dividends to the shareholders, the dividend payout ratio can be calculated by dividing the dividends paid by the reported net income, which in this case results in £0.50.

So it can be concluded that the company shared fifty percent of its profit with the shareholders during that particular financial quarter or year.

All About Dividend Growth

Dividend growth generally depends on the company. A company whose dividend grew by 20% the past 5 years may decide to cut it the coming year for any number of reasons. As long as the dividend growth is similar to the net profit growth, shareholders need not worry too much. Dividends are often seen as a good source of income among private investors. Interestingly some investors put their dividend returns back into the stock market to build a bigger portfolio.