Dividend
Encyclopedia
Dividends are payments made by a corporation
Corporation
A corporation is created under the laws of a state as a separate legal entity that has privileges and liabilities that are distinct from those of its members. There are many different forms of corporations, most of which are used to conduct business. Early corporations were established by charter...

 to its shareholder
Shareholder
A shareholder or stockholder is an individual or institution that legally owns one or more shares of stock in a public or private corporation. Shareholders own the stock, but not the corporation itself ....

 members. It is the portion of corporate profits paid out to stockholders. When a corporation earns a profit
Profit (accounting)
In accounting, profit can be considered to be the difference between the purchase price and the costs of bringing to market whatever it is that is accounted as an enterprise in terms of the component costs of delivered goods and/or services and any operating or other expenses.-Definition:There are...

 or surplus, that money can be put to two uses: it can either be re-invested in the business (called retained earnings
Retained earnings
In accounting, retained earnings refers to the portion of net income which is retained by the corporation rather than distributed to its owners as dividends. Similarly, if the corporation takes a loss, then that loss is retained and called variously retained losses, accumulated losses or...

), or it can be distributed to shareholders. There are two ways to distribute cash to shareholders: share repurchases or dividends. Many corporations retain a portion of their earnings and pay the remainder as a dividend.

For a joint stock company
Joint stock company
A joint-stock company is a type of corporation or partnership involving two or more individuals that own shares of stock in the company...

, a dividend is allocated as a fixed amount per share. Therefore, a shareholder receives a dividend in proportion to their shareholding. For the joint stock company, paying dividends is not an expense
Expense
In common usage, an expense or expenditure is an outflow of money to another person or group to pay for an item or service, or for a category of costs. For a tenant, rent is an expense. For students or parents, tuition is an expense. Buying food, clothing, furniture or an automobile is often...

; rather, it is the division of after tax profits among shareholders. Retained earnings (profits that have not been distributed as dividends) are shown in the shareholder equity section in the company's balance sheet - the same as its issued share capital. Public companies
Public company
This is not the same as a Government-owned corporation.A public company or publicly traded company is a limited liability company that offers its securities for sale to the general public, typically through a stock exchange, or through market makers operating in over the counter markets...

 usually pay dividends on a fixed schedule, but may declare a dividend at any time, sometimes called a special dividend
Special dividend
A special dividend is a payment made by a company to its shareholders that the company declares to be separate from the typical recurring dividend cycle, if any, for the company. Usually when a company raises its normal dividend, the investor expectation is that this marks a sustained increase...

 to distinguish it from the fixed schedule dividends.

Cooperative
Cooperative
A cooperative is a business organization owned and operated by a group of individuals for their mutual benefit...

s, on the other hand, allocate dividends according to members' activity, so their dividends are often considered to be a pre-tax expense.

Dividends are usually paid in the form of cash, store credits (common among retail consumers' cooperative
Consumers' cooperative
Consumer cooperatives are enterprises owned by consumers and managed democratically which aim at fulfilling the needs and aspirations of their members. They operate within the market system, independently of the state, as a form of mutual aid, oriented toward service rather than pecuniary profit...

s) and shares in the company (either newly created shares or existing shares bought in the market.) Further, many public companies offer dividend reinvestment plans, which automatically use the cash dividend to purchase additional shares for the shareholder.

The word "dividend" comes from the Latin word "dividendum" meaning "thing to be divided".

Joint stock company dividends

A dividend is allocated as a fixed amount per share. Therefore, a shareholder receives a dividend in proportion to their shareholding.

Forms of payment

Cash dividends (most common) are those paid out in currency, usually via electronic funds transfer
Electronic funds transfer
Electronic funds transfer is the electronic exchange or transfer of money from one account to another, either within a single financial institution or across multiple institutions, through computer-based systems....

 or a printed paper check
Cheque
A cheque is a document/instrument See the negotiable cow—itself a fictional story—for discussions of cheques written on unusual surfaces. that orders a payment of money from a bank account...

. Such dividends are a form of investment income and are usually taxable to the recipient in the year they are paid. This is the most common method of sharing corporate profits with the shareholders of the company. For each share owned, a declared amount of money is distributed. Thus, if a person owns 100 shares and the cash dividend is USD $0.50 per share, the holder of the stock will be paid USD $50.

Stock or scrip dividends are those paid out in the form of additional stock shares of the issuing corporation, or another corporation (such as its subsidiary corporation). They are usually issued in proportion to shares owned (for example, for every 100 shares of stock owned, a 5% stock dividend will yield 5 extra shares). If the payment involves the issue of new shares, it is similar to a stock split
Stock split
A stock split or stock divide increases the number of shares in a public company. The price is adjusted such that the before and after market capitalization of the company remains the same and dilution does not occur. Options and warrants are included....

 in that it increases the total number of shares while lowering the price of each share without changing the market capitalization
Market capitalization
Market capitalization is a measurement of the value of the ownership interest that shareholders hold in a business enterprise. It is equal to the share price times the number of shares outstanding of a publicly traded company...

, or total value, of the shares held. (See also Stock dilution
Stock dilution
Stock dilution is a general term that results from the issue of additional common shares by a company. This increase in common shares of a stock can result from a secondary market offering, employees exercising stock options, or by conversion of convertible bonds, preferred shares or warrants into...

.)

Property dividends or dividends in specie (Latin for "in kind
Payment in kind
Payment in kind refers to payment for goods or services with a medium other than legal tender ....

") 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
Structured finance
Structured finance is a broad term used to describe a sector of finance that was created to help transfer risk and avoid lawsStructured finance is a broad term used to describe a sector of finance that was created to help transfer risk and avoid laws...

. 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.

Reliability of dividends

There are two metrics which are commonly used to gauge the sustainability of a firm's dividend policy.

Payout ratio is calculated by dividing the company's dividend by the earnings per share
Earnings per share
Earnings per share is the amount of earnings per each outstanding share of a company's stock.In the United States, the Financial Accounting Standards Board requires companies' income statements to report EPS for each of the major categories of the income statement: continuing operations,...

. A payout ratio greater than 1 means the company is paying out more in dividends for the year than it earned.

Dividend cover is calculated by dividing the company's cash flow from operations
Cash flow statement
In financial accounting, a cash flow statement, also known as statement of cash flows or funds flow statement, is a financial statement that shows how changes in balance sheet accounts and income affect cash and cash equivalents, and breaks the analysis down to operating, investing, and financing...

 by the dividend. This ratio is apparently popular with analysts of income trust
Income trust
An income trust is an investment that may hold equities, debt instruments, royalty interests or real properties. The trust can receive interest, royalty or lease payments from an operating entity carrying on a business, as well as dividends and a return of capital.The main attraction of income...

s in Canada.

Dividend Dates

Any dividend that is declared must be approved by a company's Board of Directors
Board of directors
A board of directors is a body of elected or appointed members who jointly oversee the activities of a company or organization. Other names include board of governors, board of managers, board of regents, board of trustees, and board of visitors...

 before it is paid. For public companies
Public company
This is not the same as a Government-owned corporation.A public company or publicly traded company is a limited liability company that offers its securities for sale to the general public, typically through a stock exchange, or through market makers operating in over the counter markets...

, there are four important dates to remember regarding dividends. These are discussed in detail with examples at the Securities and Exchange Commission site http://www.sec.gov/answers/dividen.htm

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.

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.

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.

Book closure Date
Book closure
When shares of a joint stock company invariably change hands during market trades, identifying the owner of some shares becomes difficult. So it is difficult to pass on certain benefits to shareholders....

Whenever a company announces a dividend pay-out, it also announces a date on which the company will ideally temporarily close its books for fresh transfers of stock.

Record date Shareholders registered in the stockholders of record
Stockholder of Record
Stockholder of record is the name of an individual or entity that an issuer carries in its records as the registered holder of the issuer's securities. Dividends and other distributions are paid only to shareholders of record. Stockholder of record may be also called shareholder of record or...

on or before the date 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.

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-reinvestment

Some companies have dividend reinvestment plans, or DRIPs, not to be confused with scrips. DRIPs allow shareholders to use dividends to systematically buy small amounts of stock, usually with no commission and sometimes at a slight discount. In some cases, the shareholder might not need to pay taxes on these re-invested dividends, but in most cases they do.

Dividend Taxation

In many countries, such as the U.S.A. and Canada
Canada
Canada is a North American country consisting of ten provinces and three territories. Located in the northern part of the continent, it extends from the Atlantic Ocean in the east to the Pacific Ocean in the west, and northward into the Arctic Ocean...

, income from dividends is taxed
Dividend tax
A dividend tax is an income tax on dividend payments to the stockholders of a company.-Collection:In many jurisdictions, the government requires the company to withhold at least the standard tax, paying this to the national revenue authorities and paying out only the balance to the...

, albeit at a lower rate than ordinary income.

Australia and New Zealand

In Australia
Australia
Australia , officially the Commonwealth of Australia, is a country in the Southern Hemisphere comprising the mainland of the Australian continent, the island of Tasmania, and numerous smaller islands in the Indian and Pacific Oceans. It is the world's sixth-largest country by total area...

 and New Zealand
New Zealand
New Zealand is an island country in the south-western Pacific Ocean comprising two main landmasses and numerous smaller islands. The country is situated some east of Australia across the Tasman Sea, and roughly south of the Pacific island nations of New Caledonia, Fiji, and Tonga...

, companies also forward franking credits or imputation credit
Dividend imputation
Dividend imputation is a corporate tax system in which some or all of the tax paid by a company may be attributed, or imputed, to the shareholders by way of a tax credit to reduce the income tax payable on a distribution...

s to shareholders along with dividends. These franking credits represent the tax paid by the company upon its pre-tax profits. One dollar of company tax paid generates one franking credit. Companies can forward any proportion of franking up to a maximum amount that is calculated from the prevailing company tax rate: for each dollar of dividend paid, the maximum level of franking is the company tax rate divided by (1 - company tax rate). At the current 30% rate, this works out at 0.30 of a credit per 70 cents of dividend, or 42.857 cents per dollar of dividend. The shareholders who are able to use them offset these credits against their income tax bills at a rate of a dollar per credit, thereby effectively eliminating the double taxation
Double taxation
Double taxation is the systematic imposition of two or more taxes on the same income , asset , or financial transaction . It refers to taxation by two or more countries of the same income, asset or transaction, for example income paid by an entity of one country to a resident of a different country...

 of company profits. This system is called dividend imputation
Dividend imputation
Dividend imputation is a corporate tax system in which some or all of the tax paid by a company may be attributed, or imputed, to the shareholders by way of a tax credit to reduce the income tax payable on a distribution...

.

UK

The UK's taxation system operates along similar lines: when a shareholder receives a dividend, the basic rate of income tax is deemed to already have been paid on that dividend. This ensures that double taxation does not take place, however this creates difficulties for some non-taxpaying entities such as certain trusts, charities and pension funds which are not allowed to reclaim the deemed tax payment and thus are in effect taxed on their income.

India

In India, companies declaring or distributing dividend, are required to pay a Corporate Dividend Tax in addition to the tax levied on their income. Dividend received is exempt in the hands of the shareholder's, in respect of which Corporate Dividend Tax has been paid by the company.

Criticism

Some believe that company profits are best re-invested back into the company: research and development, capital investment, expansion, etc. Proponents of this view (and thus critics of dividends per se) suggest that an eagerness to return profits to shareholders may indicate the management having run out of good ideas for the future of the company. Some studies, however, have demonstrated that companies that pay dividends have higher earnings growth, suggesting that dividend payments may be evidence of confidence in earnings growth and sufficient profitability to fund future expansion.

Taxation of dividends is often used as justification for retaining earnings, or for performing a stock buyback, in which the company buys back stock, thereby increasing the value of the stock left outstanding.

When dividends are paid, individual shareholders in many countries suffer from double taxation
Dividend tax
A dividend tax is an income tax on dividend payments to the stockholders of a company.-Collection:In many jurisdictions, the government requires the company to withhold at least the standard tax, paying this to the national revenue authorities and paying out only the balance to the...

 of those dividends:
  1. the company pays income tax to the government when it earns any income, and then
  2. when the dividend is paid, the individual shareholder pays income tax on the dividend payment.

In many countries, the tax rate on dividend income is lower than for other forms of income to compensate for tax paid at the corporate level.
Capital gains should not be confused with dividends. Capital gains assumes an increase in a stock's value. Dividend is merely parsing out a share of the profits, and is taxed at the capital gains tax rate. If there is an increase of value of stock, and a shareholder chooses to sell the stock, the shareholder will pay a tax on capital gains (often taxed at a lower rate than ordinary income
Ordinary income
Under the United States Internal Revenue Code, the type of income is defined by its character. Ordinary income is usually characterized as income other than capital gain...

). If a holder of the stock chooses to not participate in the buyback, the price of the holder's shares could rise (as well as it could fall), but the tax on these gains is delayed until the actual sale of the shares.

Certain types of specialized investment companies (such as a REIT
Real estate investment trust
A real estate investment trust or REIT is a tax designation for a corporate entity investing in real estate. The purpose of this designation is to reduce or eliminate corporate tax. In return, REITs are required to distribute 90% of their taxable income into the hands of investors...

 in the U.S.) allow the shareholder to partially or fully avoid double taxation of dividends.

Shareholders in companies which pay little or no cash dividends can reap the benefit of the company's profits when they sell their shareholding, or when a company is wound down and all assets liquidated and distributed amongst shareholders. This, in effect, delegates the dividend policy from the board to the individual shareholder. Payment of a dividend can increase the borrowing requirement, or leverage
Leverage (finance)
In finance, leverage is a general term for any technique to multiply gains and losses. Common ways to attain leverage are borrowing money, buying fixed assets and using derivatives. Important examples are:* A public corporation may leverage its equity by borrowing money...

, of a company.

Cooperatives

Cooperative
Cooperative
A cooperative is a business organization owned and operated by a group of individuals for their mutual benefit...

 businesses may retain their earnings, or distribute part or all of them as dividends to their members. They distribute their dividends in proportion to their members' activity, instead of the value of members' shareholding. Therefore, co-op dividends are often treated as pre-tax expenses
Operating expense
An operating expense, operating expenditure, operational expense, operational expenditure or OPEX is an ongoing cost for running a product, business, or system . Its counterpart, a capital expenditure , is the cost of developing or providing non-consumable parts for the product or system...

. In other words, local tax or accounting rules may treat a dividend as a form of customer rebate or a staff bonus to be deducted from turnover before profit (tax profit
Tax profit
Tax profit or taxable profit is used to distinguish between accounting profit or earnings...

 or operating profit) is calculated.

Consumers' cooperative
Consumers' cooperative
Consumer cooperatives are enterprises owned by consumers and managed democratically which aim at fulfilling the needs and aspirations of their members. They operate within the market system, independently of the state, as a form of mutual aid, oriented toward service rather than pecuniary profit...

s allocate dividends according to their members' trade with the co-op. For example, a credit union
Credit union
A credit union is a cooperative financial institution that is owned and controlled by its members and operated for the purpose of promoting thrift, providing credit at competitive rates, and providing other financial services to its members...

 will pay a dividend to represent interest
Interest
Interest is a fee paid by a borrower of assets to the owner as a form of compensation for the use of the assets. It is most commonly the price paid for the use of borrowed money, or money earned by deposited funds....

 on a saver's deposit. A retail co-op store chain may return a percentage of a member's purchases from the co-op, in the form of cash, store credit, or equity
Ownership equity
In accounting and finance, equity is the residual claim or interest of the most junior class of investors in assets, after all liabilities are paid. If liability exceeds assets, negative equity exists...

. This type of dividend is sometimes known as a patronage dividend or patronage refund, as well as being informally named divi or divvy.

Producer cooperatives, such as worker cooperative
Worker cooperative
A worker cooperative is a cooperative owned and democratically managed by its worker-owners. This control may be exercised in a number of ways. A cooperative enterprise may mean a firm where every worker-owner participates in decision making in a democratic fashion, or it may refer to one in which...

s, allocate dividends according to their members' contribution, such as the hours they worked or their salary.

Trusts

In real estate investment trust
Real estate investment trust
A real estate investment trust or REIT is a tax designation for a corporate entity investing in real estate. The purpose of this designation is to reduce or eliminate corporate tax. In return, REITs are required to distribute 90% of their taxable income into the hands of investors...

s and royalty trust
Royalty trust
A royalty trust is a type of corporation, mostly in the United States or Canada, usually involved in oil and gas production or mining. However, unlike most corporations, its profits are not taxed at the corporate level provided a certain high percentage of profits are distributed to shareholders...

s, the distributions paid often will be consistently greater than the company earnings. This can be sustainable because the accounting earnings do not recognize any increasing value of real estate holdings and resource reserves. If there is no economic increase in the value of the company's assets then the excess distribution (or dividend) will be a return of capital
Return of capital
Return of capital refers to payments back to "capital owners" that exceed the growth of a business. It should not be confused with return on capital which measures a 'rate of return'....

 and the book value
Book value
In accounting, book value or carrying value is the value of an asset according to its balance sheet account balance. For assets, the value is based on the original cost of the asset less any depreciation, amortization or Impairment costs made against the asset. Traditionally, a company's book value...

 of the company will have shrunk by an equal amount. This may result in capital gain
Capital gain
A capital gain is a profit that results from investments into a capital asset, such as stocks, bonds or real estate, which exceeds the purchase price. It is the difference between a higher selling price and a lower purchase price, resulting in a financial gain for the investor...

s which may be taxed differently than dividends representing distribution of earnings.

Mutuals

The distribution of profits by other forms of mutual organization
Mutual organization
A mutual, mutual organization, or mutual society is an organization based on the principle of mutuality. Unlike a true cooperative, members usually do not contribute to the capital of the company by direct investment, but derive their right to profits and votes through their customer relationship...

 also varies from that of joint stock companies, though may not take the form of a dividend.

In the case of mutual insurance
Mutual insurance
A mutual insurance company is an insurance company which has no shareholders but instead is owned entirely by its policyholders. The primary form of financial business set up as a mutual company in the United States has been mutual insurance. Under this idea, what would have been profits are...

, for example, in the United States, a distribution of profits to holders of participating life policies is called a dividend.
These profits are generated by the investment returns of the insurer's general account, in which premiums are invested and from which claims are paid.

The participating dividend may be used to decrease premiums, or to increase the cash value of the policy.

Some life policies pay nonparticipating dividends.
As a contrasting example, in the United Kingdom, the surrender value of a with-profits policy
With-profits policy
A with-profits policy or participating policy is an insurance contract that participates in the profits of a life insurance company. The company is often a mutual life insurance company, or had been one when it began its with-profits product line...

 is increased by a bonus, which also serves the purpose of distributing profits.
Life insurance
Life insurance
Life insurance is a contract between an insurance policy holder and an insurer, where the insurer promises to pay a designated beneficiary a sum of money upon the death of the insured person. Depending on the contract, other events such as terminal illness or critical illness may also trigger...

 dividends and bonuses, while typical of mutual insurance, are also paid by some joint stock insurers.

Insurance dividend payments are not restricted to life policies. For example, general insurer State Farm
State Farm Insurance
State Farm Insurance is a group of insurance and financial services companies in the United States. The company also has operations in Canada....

 Mutual Automobile Insurance Company can distribute dividends to its vehicle insurance policyholders.

See also

  • Dividend cover
    Dividend cover
    Dividend cover is the ratio of company's earnings over the dividend paid to shareholders, calculated as earnings per share divided by the dividend per share...

  • Dividend tax
    Dividend tax
    A dividend tax is an income tax on dividend payments to the stockholders of a company.-Collection:In many jurisdictions, the government requires the company to withhold at least the standard tax, paying this to the national revenue authorities and paying out only the balance to the...

  • Dividend units
    Dividend units
    In finance, a dividend unit is the right to receive payments equal to actual dividends paid on a share or a stock. A dividend unit can be granted for a term, for example 20 years from the date of grant....

  • Dividend yield
    Dividend yield
    The dividend yield or the dividend-price ratio on a company stock is the company's total annual dividend payments divided by its market capitalization, or the dividend per share, divided by the price per share. It is often expressed as a percentage...

  • Special dividend
    Special dividend
    A special dividend is a payment made by a company to its shareholders that the company declares to be separate from the typical recurring dividend cycle, if any, for the company. Usually when a company raises its normal dividend, the investor expectation is that this marks a sustained increase...

  • Liquidating dividend
    Liquidating dividend
    A liquidating distribution, sometimes called a liquidating dividend, is a type of nondividend distribution made by a corporation to its stockholders during its partial or complete liquidation. Like nondividend distributions, they are not paid out of the earnings and profits of the corporation...

  • Qualified dividend
    Qualified dividend
    Qualified dividends, as defined by the United States Internal Revenue Code, are ordinary dividends that meet specific criteria to be taxed at the lower long-term capital gains tax rate rather than at higher tax rate for an individual's ordinary income...

  • P/E ratio
    P/E ratio
    The P/E ratio of a stock is a measure of the price paid for a share relative to the annual net income or profit earned by the firm per share...

  • List of companies paying monthly dividends
  • CSS dividend policy


External links

The source of this article is wikipedia, the free encyclopedia.  The text of this article is licensed under the GFDL.
 
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