What Are Dividends?

Table of Contents:

  1. When do companies pay dividends?
  2. What type of companies pay dividends?
  3. Understanding how dividends work
  4. Dividend stocks and other options
  5. The bottom line

A dividend is a payment paid to shareholders or individuals who own a percentage of stake in the company. A company can pay a dividend in the form of cash, stock, property, or other forms. Cash dividends, as the name suggests, are when a company makes dividend payments in the form of cash and are the most common types of dividends. However, you may wonder what’s dividend stock? Dividend stocks are simply stocks that pay dividends.

When starting to invest, it’s important to know that there will always be risks associated with the stock market. Although there is no definitive way to avoid the risks that come with investing, learning how to invest in stocks will help you along the way.

Key Takeaways:

  • What is the meaning of dividend? The meaning of dividend is defined as a payment made from a company to its shareholders. A company can pay a dividend in the form of cash, stock, property, or other forms.
  • What is a dividend stock? Dividend stocks are any stocks that pay dividends.
  • A stock dividend is when a company pays its shareholders in the form of additional shares rather than cash.
  • Cash dividends, as the name suggests, are when a company makes dividend payments in the form of cash.
  • The board of directors can decide to pay dividends on a scheduled time frame that can consist of monthly, quarterly, or annual dividend payments.
  • While the most common are cash dividends, other forms of dividend payments include stock dividends, property dividends, and liquidating dividends.
  • Larger companies and more established companies are more likely to pay regular dividends.
  • When understanding how dividends work, one of the most essential factors is the dividend dates, such as the announcement date and the ex-dividend date.
  • Dividends are not guaranteed.
  • Evaluating dividends with factors such as the dividend yield, the dividend payout ratio, and the financial health, growth, and history of a company can help you as an investor.

When do companies pay dividends?

When a company pays dividends, the payment is usually taken out of its net profit while the rest is put back into the company as retained earnings. A company pays dividends to preferred shareholders and common shareholders. Preferred shareholders are shareholders who reap the benefit of receiving their payment first, while common shareholders are the last in line. When a company is ready to pay dividends, the board of directors, an appointed group of individuals who represent the shareholders, has control over the payments, the amount, and when the dividend payments are made. The board of directors can decide to pay dividends on a scheduled time frame that can consist of monthly, quarterly, or annual dividend payments.

So, when are quarterly dividends paid? U.S. companies will usually pay dividends on a quarterly basis, while companies outside the U.S. usually gravitate toward an annual or semi-annual payment structure. While a company’s board of directors has to approve of each dividend before issuing them out to shareholders, shareholders must approve of the dividends through their voting rights. Two dates to keep in mind are the announcement date and the ex-dividend date, which we will explain in detail later.

Earlier, we touched briefly on different types of dividend payments. As stated, while the most common is cash dividends, other forms of dividend payments consist of stock dividends, property dividends, and liquidating dividends. In addition, some mutual funds and exchange-traded funds (ETFs) pay dividends. Now that we’ve covered how to receive dividends, we can move on to a more in-depth discussion about the different types of dividends.

Dividend types

As an investor, you ultimately decide what form of dividends you are interested in based on the companies you choose to invest in. While dividend investing comes with risks regardless of the dividend type, it’s great to be informed on the variety to diversify your options. Now let’s talk about dividend types such as stock dividends, cash dividends, property dividends, liquidating dividends, dividend reinvestment programs (DRIPs), special dividends, preferred dividends, and dividend funds.

  • Stock dividends

As stated earlier, stock dividends are when a company pays its shareholders with additional shares in the company rather than cash. Stock dividends also have a tax advantage where the shareholder will not be taxed on the dividend until they choose to sell their shares and receive the cash. However, one thing to keep in mind is that if a stock dividend offers a cash dividend option, then the shareholders will be taxed even if they do not sell their shares. Stock dividends, unlike cash dividends, allow an investor to have the option to keep their shares, which can possibly result in a better return later, or turn some of their shares into cash dividends by selling. Some companies may choose to pay stock dividends if they are looking to reward their shareholders but do not have enough available cash or have limited funds.

  • Cash dividends

Cash dividends are dividends that are paid in the form of cash to shareholders, which are usually credited to their brokerage account. Shareholders can opt to reinvest their cash dividends to expand their investment, which can result in dividend growth, or they can simply cash out. A cash dividend payout usually comes from a well-established company with a strong financial position. However, a cash dividend payout can affect a company’s growth if an unexpected financial hardship were to arise. As previously mentioned, the board of directors can choose to change the amount of the dividend and the time at which it is paid.

  • Property dividends

Unlike dividend stocks or cash dividends, a company can decide to pay its shareholders dividends in the form of property. Property dividends can include tangible assets of a company such as inventory, equipment, real estate, or shares from a subsidiary company. Although property dividends differ from cash dividends, they are still dividends that are considered to have a monetary value. A property dividend can serve as an advantage to shareholders because they can choose to hold on to this type of dividend for a possible gain in profit, and it can also help with lowering or delaying taxes. However, these types of dividends are not as common as cash or stock dividends.

  • Liquidating dividends

During the liquidation process, a company pays its shareholders by distributing assets of the company. When a company comes to an end, it may decide to allocate its assets because of the financial difficulty of not being able to pay what they owe. When this happens, shareholders are normally not the first in line to receive these types of dividends, as companies will ensure that creditors, the government, employees, etc., are paid first. Liquidating dividends are usually paid from the company’s capital base and are not typically taxable.

  • Dividend reinvestment programs (DRIPS)

Dividend reinvestment programs, also known as DRIPS, are when shareholders own stock in a company and decide to have their dividends reinvested instead of collecting them in cash. DRIPS can be a good option for someone who is interested in long-term gain with their investments. This can be a method used to increase your profit over time. When shareholders reinvest their dividends back into a company, this means that they are using their reinvested dividends to purchase more stock in a company.

  • Special dividends

Special dividends, also known as extra dividends, are one-off payments where a company pays additional dividends to its shareholders. A special dividend is usually more than a regular dividend payment and doesn’t occur on a regular basis. A company may distribute a non-recurring special dividend if it has a solid financial position, has gained a large amount of capital over time where there’s no urgent need to allocate the funds elsewhere, or is restructuring its finances. Special dividends, although a bonus to shareholders, normally do not happen more than once for a company.

  • Preferred dividends

Preferred dividends are cash dividends that a company pays to its preferred shareholders. Preferred dividends have seniority over common stock. This means that when a company pays preferred dividends, they are issued from the company’s net income and take precedence over its common stock dividends. In addition, these types of dividends tend to pay at a higher fixed rate, unlike common stock dividends. Preferred dividends are generally paid quarterly.

  • Dividend funds

Dividend funds are mutual funds that invest in dividend-paying stocks. These types of dividends can be ideal for an investor who doesn’t have much time to research individual stocks and would rather a fund manager allocate their investments across multiple securities for their benefit. Investors may also look to dividend funds if they are looking for regular paying dividends. In addition, some funds may focus on the dividend yield, which is the percentage of a company’s stock price that a company pays out each year in dividends. Dividend mutual funds normally look to bigger and more established companies with a strong dividend-paying history.

What type of companies pay dividends?

Now that we’ve covered what dividend stock is, when companies pay dividends, and types of dividends, let’s move on to what type of companies issue dividends. Earlier, we stated that larger companies with a strong foundation are more likely to pay regular dividends. This is because start-ups and high-growth companies normally focus on growth and will reinvest their earnings back into the company to expand. Therefore, bigger and well-established companies with a consistent dividend-paying history are usually the top dividend payers. However, there are certain industry areas that seem to have a track record of regular dividend payments, such as the oil and gas industry, the banking and finance industry, the utility industry, the healthcare and pharmaceutical industry, and basic materials. Mastered limited partnerships (MLPs) and real estate investment trusts (REITs) are also top dividend-paying companies. In addition, as previously mentioned, some dividend mutual funds and exchange-traded funds (ETFs) make regular dividend payments.

Understanding how dividends work

When understanding how dividends work, one of the most essential factors is the dividend dates. These dates will give you insight into when you will receive your dividend payments and if you are qualified to receive them. Let’s jump right in!

  • Announcement or declaration date – The announcement date, also known as the declaration date, is when the board of directors at a company announces the next dividend payment. This must be approved by shareholders before they are paid.
  • Ex-dividend date – The ex-dividend date is crucial for shareholders as it’s the dividend eligibility expiration date. This means that if the ex-dividend date is on Tuesday, March 8, you would not be eligible to receive dividend payments if you purchased stock on or after this date. However, if you own stock one business day prior to the ex-dividend date, in this case, on Monday, March 7, you would be eligible to receive dividend payments.
  • Record date – On the record date, the board of directors determines which shareholders are eligible to receive dividend payments. This is another important date to pay attention to.
  • Payment date – The payment date is the date that a company distributes payments to shareholders, which are then credited to their accounts.

Companies may pay dividends for many different reasons. Some companies may want to reward their shareholders for investing in the company. This can have a positive effect on a company because, just like customer loyalty, it can create a great relationship with investors and earn their trust. Dividends can be a good sign that a company is financially healthy and can be a tool companies use to attract more investors and increase share prices. Larger, more established companies may have earnings left over after paying business expenses and reinvesting, which can also result in paying dividends to shareholders.

Are dividends guaranteed?

Dividends are not guaranteed. You may have an interest in receiving regular dividend payments, or there may be other factors that have your focus. As an investor, it’s important to research the company, its dividend-paying history, and other details that contribute to your investment decisions. Moreover, if a company announces a decrease in dividend payments or halts them all together, this may not be a good sign and can indicate that it’s having problems. On the contrary, a decreased or halted payment may not always be a bad sign. A company may take an interest in investing in a larger project rather than distributing dividends or the same dividend pay rate to their shareholders for a bigger return on profit in the long run. They may decide that this will benefit their shareholders more than the dividend payments during that time.

When it comes to evaluating dividends, there are a few things to keep in mind. Some factors investors may consider are the dividend yield and the dividend payout ratio. The dividend yield, as mentioned earlier, is the percentage of a company’s stock price that a company pays out each year in dividends (dividend yield = annual dividends per share/current share price). The dividend payout ratio is the portion of a company’s net income that’s distributed in dividend payments. One important thing to note is that the dividend yield and the stock price can have an impact on each other. This means that when one rises, the other falls. Some investors may just look at the dividend yield when researching what dividend-paying companies to invest in. However, it’s essential to consider how both the dividend yield and share price can contribute to your overall investment decisions.

Investors may also look to companies that have a consistent pattern of long-term annual growth, a strong and healthy income, and a 5-year dividend-paying history at minimum. These factors can signal that a company is not only in a healthy position to pay and maintain their dividends but also that they have the proper history to back up the possible investment choice. In addition, investors may also refrain from investing in companies that have extensive debt, which can affect the ability to consistently pay shareholders. Lastly, industry trends can help an investor gain insight into how a company may perform over time. Understanding how stocks work and how these different factors can contribute to dividend investing can ultimately help you with your investment decisions.

Dividend stocks and other options

As mentioned earlier, different dividend paying securities that a shareholder may choose to invest in consist of stocks, mutual funds, exchange-traded funds (ETFs), mastered limited partnerships (MLPs), real estate investment trusts (REITs), and others. These can be good investment dividends depending on what your short- and long-term goals are.

The bottom line

Dividend stocks may build your wealth over time. As an investor, keep in mind that there will always be risks when investing in the stock market. Applying those risks with proper research or suggestions from a financial advisor will help you make healthy investment decisions. Although dividend payments are not always guaranteed, there are a variety of options you can choose from as an investor if you are looking to benefit from regular dividend payments. Evaluating dividends with factors such as the dividend yield, the dividend payout ratio, and the financial health, growth, and history of a company can also help you along the way. If you want to get a step ahead, download the Public app today!

The above content provided and paid for by Public and is for general informational purposes only. It is not intended to constitute investment advice or any other kind of professional advice and should not be relied upon as such. Before taking action based on any such information, we encourage you to consult with the appropriate professionals. We do not endorse any third parties referenced within the article. Market and economic views are subject to change without notice and may be untimely when presented here. Do not infer or assume that any securities, sectors or markets described in this article were or will be profitable. Past performance is no guarantee of future results. There is a possibility of loss. Historical or hypothetical performance results are presented for illustrative purposes only.