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This week, we will be covering some basics about Dividends. So lets get started:
- A dividend is a payment made by a firm to its shareholders. You can think of it as the shareholders compensation for being a part owner of the company.
- One form of dividend is the Cash Dividend. A cash dividend is exactly what it sound like, it’s a specific amount of cash per share paid out to each owner of the shares. The benefit of a cash dividend to the company is that it signals that it’s doing well as they have enough cash left over to distribute to their stockholders. In other words, the cash dividend gives positive publicity to the company, which attracts new investors. To the receiving stockholder, the obvious benefit of a cash dividend is the extra source of income. The backside is the added tax expense since cash dividends are taxed as income.
- Another form of dividend is the Stock Dividend. This is when an additional amount of stock per outstanding share is rewarded to the shareholders. Paying out a stock dividend is beneficial to the firm in the way that they don’t spend any of their cash holdings in the dividend disbursement. The backside is that it may signal to other investors that the company’s financials aren't healthy enough to reward its shareholders in cash. Shareholders receiving a stock dividend are enjoying the fact that they won’t need to pay income tax on the dividend until they realize the potential capital gain from selling the share.
- Two key metrics pertaining to dividends are important to consider when evaluating investing in a firm.
- Dividend Rate – The dollar amount of the dividend
- Dividend Yield – Dividend rate/Current Stock price – tells you how high/low the dividend you receive is relative to what you pay for the stock
A low Dividend rate is both a positive and a negative sign about the firm. The positive indication is that the company is holding more of its cash to invest in projects that will help the business grow. Business growth usually translates into a higher stock price. However, the negative indication when a company pays a historically lower dividend is that the business may be showing signs of declining prosperity.
- There are 4 important dates to consider regarding Dividend payments:
- The first step a company takes in paying out a dividend is the Declaration Date. This is the date when the company announces the dividend payout and adds the responsibility to pay out the dividend at a certain future date to its liabilities.
- At the same time as the company announces a dividend payout, they also announce a Record Date. All the stockholders on the books this day will receive the dividend.
- The Record Date automatically determines another important date to keep in mind, the Ex-Dividend Date. This date usually falls 2 days before the Record Date since it takes about 2 business days to complete a stock trade. You can sell the stock on or after this date and still receive the declared dividend. Stockholders who sold the stock before the Ex-dividend date will not receive the declared dividend. Equally, investors who bought the stock before the Ex-Dividend date will receive the dividend.
- The last important date to consider is the date when the dividend is actually paid out, simply called the Payable Date.