Dividends. An Income Investor’s Dream.

dividends picFace it. You want to have your cake and eat it too. You want the reliable income and stability that that dividend-paying shares provide, but you also want to beat the market.

Well, you’re not alone. Many Singaporean investors love receiving a dividend pay-check in the mail. Many people regard dividends in the form of an additional income or a sudden windfall, but what exactly are dividends and why do companies pay dividends?

Dividends can be a large component of the total returns that a stock provides over time. When a corporation earns a profit or has positive cash flow surplus, it can either re-invest it in the business (called retained earnings), or it can distribute it to shareholders – known as dividends.

The dividend is most often quoted in terms of the dollar amount each share receives (dividends per share). It can also be quoted in terms of a percent of the current market price, referred to as dividend yield. Taking DBS Group (SGX: D05) as an example, it has paid out S$0.56 dividends per share, translating into a yield of 3.38%.

Types of Dividends

There are 2 types of dividends: Cash and stock dividends.

Cash dividends, as the name implies, are distributions paid to shareholders in cash. There are 3 forms of cash dividends namely:

  1. Regular Dividends where the pay out is on a consistent schedule
  2. Special Dividends are usually a one-time cash payment to shareholders used when companies are enjoying boom times, typical for cyclical firms.
  3. Liquidating Dividends occur when a company goes bankrupt and distributes whatever proceeds are left to shareholders (Hope that nobody receives this kind of dividend!)

On the other hand, stock dividends are dividends paid out in new shares of stock rather than cash. In this case, there will be more shares outstanding, but each share will be worth less. For example, a 10% stock dividend means every shareholder will receive 10% more stock.

Dividend Payment Chronology

dividend pymt chronology

The above dates are an example of a typical dividend payment schedule.

  • Declaration date: The date the board of directors approves payment of the dividend and announces to the shareholders and markets as a whole.
  • Ex-dividend date: It is the cut-off date for receiving the dividend. If you buy a dividend paying stock one day before the ex-dividend you will still get the dividend, but if you buy on the ex-dividend date, you won’t get the dividend.
  • Date of record: On this date, the company looks at its record to see the shareholders designated to receive the dividend. It is usually 2 business days after the Ex-date.
  • Payment date: This is the date that dividend cheques are paid out to the holders on record. This date is generally 2 weeks after the date of record to allow sufficient time for the company to ensure that it accurately pays all those who are entitled.

Financial Ratios’ Impact

Paying a cash dividend will reduce a firm’s cash holdings and in turn, its assets and shareholders’ equity (retained earnings). Thus, other things being equal, it will decrease a company’s working capital ratio, and increase its debt-to-assets ratio; while the decrease in equity will increase its debt-to-equity ratio.

On the other hand, stock dividends have no effect on a company’s balance sheet as they do not change any values in the assets/shareholders’ equity. They merely change the number of outstanding shares which will affect the share price instead.

Foolish Bottom-line

A long-term record of stable or increasing dividends is widely viewed as a sign of the company’s financial stability. This is also one of the primary reasons why blue chips are favoured by retail investors. Singapore iconic companies like CapitaLand (SGX: C31) and UOB (SGX: U11) have paid out dividends consistently for at least 10 years, and could continue to do so.

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice.   Motley Fool Singapore contributor James Yeo does not owns shares in the companies mentioned in this article.

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