A Study on Dividend and its various aspects

What Does Dividend Mean?
Companies that earn a profit can do one of three things: pay that profit out to shareholders, reinvest it in the business through expansion, debt reduction or share repurchases, or both. When a portion of the profit is paid out to shareholders, the payment is known as a dividend. A taxable payment declared by a company's board of directors and given to its shareholders out of the company's current or retained earnings, usually quarterly. Dividends are usually given as cash (cash dividend), but they can also take the form of stock (stock dividend) or other property. Dividends provide an incentive to own stock in stable companies even if they are not experiencing much growth. Their share prices might not move much, but the dividend attempts to make up for this. High-growth companies rarely offer dividends because all of their profits are reinvested to help sustain higher-than-average growth. Mutual funds pay out interest and dividend income received from their portfolio holdings as dividends to fund shareholders. In addition, realized capital gains from the portfolio's trading activities are generally paid out (capital gains distribution) as a year-end dividend. Companies are not required to pay dividends. The companies that offer dividends are most often companies that have progressed beyond the growth phase, and no longer benefit sufficiently by reinvesting their profits, so they usually choose to pay them out to their shareholders also called payout.

Forms of payment

Cash Dividends Regular cash dividends are those paid out of a company’s profits to the owners of the business (i.e., the shareholders). A company that has preferred stock issued must make the dividend payment on those shares before a single penny can be paid out to the common stockholders. The preferred stock dividend is usually set whereas the common stock dividend is determined at the sole discretion of the Board of Directors (for reasons discussed later, most companies are hesitant to increase or decrease the dividend on their common stock). Stock Dividends A stock dividend is a pro-rata distribution of additional shares of a company’s stock to owners of the common stock. A company may opt for stock dividends for a number of reasons including inadequate cash on hand or a desire to lower the price of the stock on a per-share basis to prompt more trading and increase liquidity (i.e., how fast an investor can turn his holdings into cash). Why does lowering the price of the stock increase liquidity? On the whole, people are more likely to buy and sell a $50 stock than a $5,000 stock; this usually results in a large number of shares trading hands each day. A practical example of stock dividends: Company ABC has 1 million shares of common stock. The company has five investors who each own 200,000 shares. The stock currently trades at $100 per share, giving the business a market capitalization of $100 million. Management decides to issue a 20% stock dividend. It prints up an additional 200,000 shares of common stock (20% of 1 million) and sends these to the shareholders based on their current ownership. All of the investors own 200,000, or 1/5 of the company, so they each receive 40,000 of the new shares (1/5 of the 200,000 new shares issued).

Now, the company has 1.2 million shares outstanding; each investor owns 240,000 shares of common stock. The 20% dilution in value of each share, however, results in the stock price falling to $83.33. Here’s the important part: the company (and our investors) are still in the exact

same position. Instead of owning 200,000 shares at $100, they now own 240,000 shares at $83.33. The company’s market capitalization is still $100 million. A stock split is, in essence, a very large stock dividend. In cases of stock splits, a company may double, triple or quadruple the number of shares outstanding. The value of each share is merely lowered; economic reality does not change at all. It is, therefore, completely irrational for investors to get excited over stock splits. If you do not still fully understand this, you must read How to Think About Share Price. It will clear up any lingering confusion. One of the more interesting theories of corporate dividend policy is that managements should opt for stock dividends over all other kinds. This will allow investors that want their earnings retained in the business (and not taxed) to hold on to the additional stock paid out to them. Investors that want current income, on the other hand, can sell the shares they receive from the stock dividend, pay the tax and pocket the cash - in essence, creating a “do-it-yourself” dividend. Property dividends or dividends in specie (Latin for "in kind") are those paid out in the form of assets from the issuing corporation or another corporation, such as a subsidiary corporation. They are relatively rare and most frequently are securities of other companies owned by the issuer, however they can take other forms, such as products and services. Other dividends can be used in structured finance. Financial assets with a known market value can be distributed as dividends; warrants are sometimes distributed in this way. For large companies with subsidiaries, dividends can take the form of shares in a subsidiary company. A common technique for "spinning off" a company from its parent is to distribute shares in the new company to the old company's shareholders. The new shares can then be traded independently.

Special One-Time Dividends In addition to regular dividends, there are times a company may pay a special one-time dividend. These are rare and can occur for a variety of reasons such as a major litigation win, the sale of a business or liquidation of a investment. They can take the form of cash, stock or property


dividends. Due to the temporarily lower rates of taxation on dividends, there has been an increase in special dividends paid in recent years.

Dividends must be “declared” by a company’s Board of Directors each time they are paid. For public companies, there are four important dates to remember regarding dividends. The declaration date is the day the Board of Directors announces its intention to pay a dividend. On this day, a liability is created and the company records that liability on its books; it now owes the money to the stockholders. On the declaration date, the Board will also announce a date of record and a payment date. The in-dividend date is the last day, which is one trading day before the ex-dividend date, where the stock is said to be cum dividend ('with [including] dividend'). In other words, existing holders of the stock and anyone who buys it on this day will receive the dividend, whereas any holders selling the stock lose their right to the dividend. After this date the stock becomes ex dividend. The ex-dividend date (typically 2 trading days before the record date for U.S. securities) is the day on which all shares bought and sold no longer come attached with the right to be paid the most recently declared dividend. This is an important date for any company that has many stockholders, including those that trade on exchanges, as it makes reconciliation of who is to be paid the dividend easier. Existing holders of the stock will receive the dividend even if they now sell the stock, whereas anyone who now buys the stock will not receive the dividend. It is relatively common for a stock's price to decrease on the ex-dividend date by an amount roughly equal to the dividend paid. This reflects the decrease in the company's assets resulting from the declaration of the dividend. The company does not take any explicit action to adjust its stock price; in an efficient market, buyers and sellers will automatically price this in. Whenever a company announces a dividend pay-out, it also announces a "Book closure Date" which is a date on which the company will ideally temporarily close its books for fresh transfers of stock.


Shareholders who properly registered their ownership on or before the date of record, known as stockholders of record, will receive the dividend. Shareholders who are not registered as of this date will not receive the dividend. Registration in most countries is essentially automatic for shares purchased before the ex-dividend date. The payment date is the day when the dividend checks will actually be mailed to the shareholders of a company or credited to brokerage accounts.

Dividend Policy
Are high dividends good or bad? The answer depends upon financial circumstances and the business itself. In Determining Dividend Payout: When Should Companies Pay Dividends?, a company should only pay dividends if it is unable to reinvest its cash at a higher rate than the shareholders (owners) of the business would be able to if the money was in their hands. If company ABC is earning 25% on equity with no debt, management should retain all of the earnings because the average investor probably won't find another company or investment that is yielding that kind of return. At the same time, an investor may require cash income for living expenses. In these cases, he is not interested in long-term appreciation of shares; he wants a check with which he can pay the bills.

Double taxation - the political debate over dividends Dividends, like interest, are taxed at a person’s individual tax rate. Capital gain taxes, on the other hand, are assessed according to the length of time an investor held his investment and can be as low as half the rate levied on dividends income. This difference in tax treatment is another reason many investors opt for long-term equity holdings that reinvest capital into the business


instead of paying it out in the form of a dividend; by avoiding the double-taxation, they can compound their wealth at a faster rate. There is a significant political controversy over the fact that profits paid out as dividends are subject to double-taxation. The corporation paid income taxes on the profit it earned (original tax). The owners of the business then take that profit out for their personal use in the form of a dividend and are taxed at personal income tax rates (second tax). In effect, they have paid the government twice.

Dividend Payout Ratio
The percentage of net income that is paid out in the form of dividend is known as the dividend payout ratio. This ratio is important in projecting the growth of company because its inverse, the retention ratio (the amount not paid out to shareholders in the form of dividends), can help project a company’s growth. Calculating Dividend Payout Ratio Coca-Cola’s 2003 cash flow statement shows that the company paid $2.166 billion in dividends to shareholders. The income statement for the same year shows the business had reported a net income of $4.347 billion. To calculate the divided payout ratio, the investor would do the following: $2,166,000,000 dividends paid ---------(divided by)--------$4,347,000,000 reported net income The answer, 49.8%, tells the investor that Coca-Cola paid out nearly fifty percent of its profit to shareholders over the course of the year.

Dividend Yield
A financial ratio that shows how much a company pays out in dividends each year relative to its share price. In the absence of any capital gains, the dividend yield is the return on investment for a stock. Dividend yield is calculated as follows:


Dividend yield is a way to measure how much cash flow you are getting for each dollar invested in an equity position. Investors who require a minimum stream of cash flow from their investment portfolio can secure this cash flow by investing in stocks paying relatively high, stable dividend yields. For example: If two companies both pay annual dividends of $1 per share, but ABC company's stock is trading at $20 while XYZ company's stock is trading at $40, then ABC has a dividend yield of 5% while XYZ is only yielding 2.5%. Thus, assuming all other factors are equivalent, an investor looking to supplement his or her income would likely prefer ABC's stock over that of XYZ.

An Example of

Dabur India Ltd DIVIDEND

I. DECLARATION-DIVIDEND SHALL BE DECLARED OR PAID ONLY OUT OF i) Current Year’s profit a) After providing for depreciation in accordance with law b) After transferring to the reserves such amount of Profit as may be prescribed, or

ii) The Profits for any previous financial year(s) a) After providing for depreciation in accordance with law, and b) Remaining undistributed, or iii) Out of i) & ii) both II. LOSSES Before declaring any dividend, the losses, if any, of any previous year(s) must be set off against the profits of the Company for the current year or previous years. III. DECLARATION OF DIVIDEND OUT OF RESERVES - Board should avoid the practice of Declaration of Dividend out of Reserves IV. AMOUNT OF DIVIDEND 1. Board shall endeavor to maintain the Dividend Payout Ratio, to be reviewed every 2 to 3 years. (Dividend/ Net Profit for the year) as near as possible to 50% subject to a. Company’s need for Capital for its growth plan b. Positive Cash Flow V. FACTORS TO BE CONSIDERED BEFORE DECLARING DIVIDEND. 1. Plough back of profits i. e. future capital expenditure program including a) New project b) Expansion of capacities of existing units c) Renovation/ Modernization d) Major Repairs & Maintenance 2. Likelihood of crystallization of contingent liabilities, if any 3. Contingency Fund 4. Acquisition of brands/ businesses 5. Sale of brands/ businesses. VI) TIMING 1) Interim Dividend

- Board to declare - Based on review of profits earned during the current year - to date - one to three times a year 2) Final Dividend - Board to recommend to members for their approval - Based on review of profits arrived at as per audited financial statements, for the year - Max. once in a year.

• • • • • • beginnersinvest.about.com/od/dividendsdrips1/a/aa040904.htm http://beginnersinvest.about.com/od/dividendsdrips1/a/aa040904_2. htm www.studyfinance.com/lessons/dividends/index.mv?page=02 en.wikipedia.org/wiki/Dividend www.investorwords.com/1509/dividend.html www.investopedia.com/terms/d/dividend.asp 9

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www.eurojournals.com/irjfe_20_15.pdf www.rhsmith.umd.edu/faculty/gphillips/courses/Bmgt640/Dividend.pdf www.studyfinance.com/lessons/dividends/ www.investopedia.com/terms/d/dividendyield.asp http://www.morevalue.com/i-reader/ftp/Ch17.PDF


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