What is Dividend? Dividend is a distribution by a company to its shareholders. The dividend is usually paid from the profit. It is a way of handing over accumulated cash to shareholders. The money that companies do not distribute to shareholders can be reinvested by the company.
The dividend paid is usually taxed with a dividend tax. The government in the Netherlands levies a 15% dividend tax. The dividend can be expressed as the total dividend, but usually the focus is on the dividend per share.
In this article I will tell you more about dividend. What dividend is, where it comes from, and the importance of dividend and dividend yield.
Topics discussed in this article:
- What is the meaning of dividend?
- Types of dividends
- Calculate dividend yield
- History of dividend
- Dividend tax
- When to pay a dividend?
- Psychology of Dividend
- The effect of reinvestment
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What is Dividend?
What is the meaning of dividend?
A distribution to shareholders ensures that shareholders get their hands on money without selling shares. The word dividend comes from the Latin word dividendum. The dividend is therefore divided among all shares. The dividend is divided proportionally among all outstanding shares.
Usually, the dividend is a portion of the profit that an organization pays out to shareholders. The profit that organizations do not distribute remains in the company. Organizations that distribute a smaller portion of the profit have more money to reinvest. Another way to return money to shareholders is to buy back shares. In this way, selling shareholders are bought out and the interest that the remaining shareholders have in the company increases.
Typically, this dividend is paid out of the profits and money is what the company can spare. This is because management is generally not inclined to distribute money to shareholders that they need in the company. Paying out money that is not available increases the risk of bankruptcy. In addition, a reduction in a dividend often results in dissatisfied shareholders. In such a case, they can decide to dismiss management. For these reasons, managers are often reluctant to lower or pay a dividend.
There are exceptions to this. Some companies try to attract shareholders with a high dividend. These companies often issue new shares. These are used for acquisitions and growth. After all, there is not much capital left after paying the high dividend. The interests of the existing shareholders are diluted by the issue of new shares. This can be a good strategy when good investments are made with this money.
However, these investments must be better than buying stock in the company itself. The company issues these shares to make these investments. Companies are therefore dependent on the issue of new shares. This makes them vulnerable to a fall in the price of the shares. This makes it more expensive to issue new shares. Investors are not always willing to buy new shares. When interest in new shares dilutes, the high dividend may also be at risk.
Types of dividends
Usually the dividend is paid in cash, which is called a cash dividend. Organizations can pay out dividends quarterly, annually and on special occasions. This non-recurring dividend However, there are also other ways to pay out dividends, some companies, for example, issue a scrip or stock dividend. A stock dividend consists of new shares issued for this occasion. In some cases, investors can also choose between a cash or stock dividend. Investors who opt for a cash dividend in these cases will see their stake in the company diluted. Investors who opt for a stock dividend see the interest in the company increasing, but do not receive any cash. When there is no choice, but only stock dividend,
An exceptional form of dividend is the dividend in specie. This happens when a company splits off a particular business unit and gives it to its shareholders. In this case, after the dividend you have an interest in two different companies.
Calculate dividend yield
Dividend yield is calculated by dividing the total dividend paid out by the market capitalization or the dividend per share divided by the share price. Multiply the result by 100 to arrive at the percentage.
There are even more formulas that are important for buying dividend stocks. These often calculate how safe the dividend is and how much room there is for the dividend to grow. The most important ratio for this is the payout ratio, which is equal to the dividend divided by the profit. A variant of this divides the dividend by the free cash flow. Free cash flow is actually cash that comes in and the company can therefore spend. Which formula to use depends, among other things, on the industry.
History of dividend
The first company to pay dividends among its shareholders was the Dutch East India Company (VOC). The VOC paid an annual dividend of 18% of the value of the shares. This happened over a period of nearly 200 years (1602-1800).
Calculate dividend tax
The formula for computing the dividend yield is Dividend Yield = Cash Dividend per share / Market Price per share * 100.
Suppose a company with a stock price of Rs 100 declares a dividend of Rs 10 per share. In that case, the dividend yield of the stock will be 10/100*100 = 10%.
When to pay a dividend?
The dividend is determined by the board, but ultimately approved by the shareholders. The amount depends on the company, but there are roughly 3 ways in which it can be determined:
- Management does not have a fixed policy and is flexible in paying the dividend. This offers management the most freedom, but shareholders cannot count on the arrival of the dividend in this situation.
- The dividend is a fixed percentage of the profit. In years with a lot of profit, companies pay out more and in years with less. Sometimes there is a certain bandwidth in which the dividend moves. With this system, the payout ratio or payout ratio remains the same. The disadvantage of such a system is that the fixed percentage in lean years may be too much for the company, but too little for the shareholders. It limits the freedom of management, but shareholders have more of an idea what the dividend can be.
- Fixed or steadily growing dividend. This is the most attractive for shareholders because they can count on and plan for it. This is only possible for companies if the results are fairly stable. In the event of large fluctuations, it is difficult to maintain the dividend. Since shareholders are counting on the dividend, a reduction in the dividend will often be disapproved. This makes it difficult to lower the dividend. When the dividend is cut, you often see a sharp fall in the stock price.
The dividend is declared and linked to the shares on the ex-dividend date. The owner of the shares on the ex-dividend date will receive the dividend on the distribution date. This date is usually a few weeks after the ex dividend date.
Psychology of Dividend
Psychologically, a dividend has an advantage for some investors. Investors in dividend stocks regularly see a dividend coming in. Certainly investors who are naturally a little suspicious of the stock market or have bad experiences can draw confidence from the dividend. The dividend is proof of the strategy working. High dividend and growing dividends are therefore popular with investors. A high dividend ensures that the investment is quickly recouped. A growing dividend protects against inflation and growth also shows that the portfolio is moving in the right direction. Ultimately, the value of a stock is equal to all cash flows. The cash flows are the dividend that shareholders receive. With a high dividend, you get more dividend, but the amount of the dividend grows less. Historically, high dividend strategies have not necessarily been superior to other investment strategies that focus on dividend growth, profitability or free cash flow. Would you like to gain more insight into the dividend you receive? At we have very extensive dividend reports .
The effect of dividend reinvestment
Dividend reinvestment ensures that you own more and more shares in a company over time. These newly acquired shares also pay out dividends. Due to these new dividend payments, the dividend grows exponentially and so does the underlying asset. This exponential character of a dividend on dividend is exactly the same as the “compound interest” that Einstein called the eighth wonder of the world.