What you will learn
- Explain what a dividend is and why some companies pay one while others do not
- Calculate dividend yield so you can compare the income from different stocks
- Put the four dividend dates in order and identify the cutoff for getting paid
- Explain the usual price drop on the ex-dividend date
A stock can pay you in two ways. Its price may rise, and the company may send part of its earnings to shareholders. That cash payment is a dividend. Dividends also explain a strange-looking market move: sometimes a stock drops even though the company released no bad news.
Dividends 101
Start here for a quick explanation of dividends and why some investors look for them. Watch before moving on!
Where dividends come from
A dividend is part of a company's earnings paid to shareholders. In the US, companies usually pay it in cash, often once a quarter. Mature, profitable businesses are more likely to pay dividends when they do not need all their earnings to fund growth. Fast-growing companies often pay no dividend and put their earnings back into the business instead. No dividend is guaranteed. If business gets difficult, a company can reduce the payment or stop it.
Key terms
- Dividend
- Part of a company's earnings paid to shareholders, usually as quarterly cash payments.
- Dividend yield
- The annual dividend shown as a percentage of the share price. Use it to compare income across stocks.
- Ex-dividend date
- The ownership cutoff. You must own the stock before this date to get the upcoming payment.
- Payout ratio
- Dividends divided by earnings. It shows how much profit the company pays out.
Comparing dividends with yield
A dividend amount by itself does not tell you much when two stocks have different prices. Dividend yield makes the comparison easier. Divide the annual dividend per share by the share price, then write the result as a percentage. A 100 dollar stock that pays 3 dollars per year has a 3 percent yield. Be careful with an unusually high yield, though. It may be high because the stock price fell as investors worried about a possible dividend cut.
A dividend yield from start to finish
A stock trades at 80 dollars and pays a dividend of 0.80 dollars every quarter. What is its dividend yield?
- Add up one year of payments. The company pays 0.80 dollars four times, for a total annual dividend of 3.20 dollars.
- Compare that amount with the price. Divide 3.20 by 80. The result is 0.04.
- Write the result as a percentage. Multiply 0.04 by 100 to get 4 percent.
Why it matters: Use a full year of dividends in the formula. If the payment is quarterly, multiply it by four first.
Try the yield calculation
A stock costs 50 dollars per share and pays a 2 dollar annual dividend. What is the dividend yield?
Four dates, one cutoff
- Declaration date: The company announces the dividend amount and the other dates.
- Ex-dividend date: This is the cutoff. Own the stock before this date to get the payment. If you buy on or after it, the seller gets the dividend.
- Record date: The company checks its records to confirm who owns shares.
- Payment date: The company sends the cash to shareholders' accounts.
| Date | What the company does | What it means for you |
|---|---|---|
| Declaration | Announces the dividend | You learn the amount and the schedule |
| Ex-dividend | Applies the ownership cutoff | You must own shares before this date |
| Record | Checks the shareholder records | The company confirms who gets paid |
| Payment | Sends out the cash | The dividend reaches your account |
Why the share price usually drops
On the ex-dividend date, the stock price usually falls by about the dividend amount. That drop does not require bad news. The company is about to send out cash, so each share is worth a little less after the cash leaves. A buyer on or after the ex-date also misses the upcoming payment and will not want to pay as much. The value has moved from the share price to the cash dividend rather than disappearing.
On the ex-dividend date, some value moves out of the share price and into the cash payment. The total value stays the same.
Dividends are irrelevant, sort of (The Plain Bagel)
The ex-dividend price drop gets a closer look here, including why a dividend is not free money. Watch it after the basic timeline makes sense.
Thursday is the ex-dividend date
A stock's ex-dividend date is Thursday. You buy shares on Thursday. Will you receive the upcoming dividend?
You must own the stock before the ex-dividend date. Buying on Thursday is too late, so the seller receives this dividend.Other pieces of the dividend picture
A dividend is one of two main ways a company returns cash to its owners. The other is a share buyback, when the company spends cash to repurchase its own shares. You can measure how much profit goes toward dividends with the payout ratio: dividends divided by earnings. Many investors also use a dividend reinvestment plan, or DRIP. It automatically spends each dividend on more shares, allowing compounding to work on the investment.
Keep the cash or pay it out?
Why might a young, fast-growing technology company pay no dividend while a large, stable utility pays one regularly? Answer in two or three sentences.
Write an answer before comparing it with the model response.
Model answer
The fast-growing company may be able to earn a high return by using its profits to expand, so it keeps the cash. A large, stable utility may have fewer opportunities for major growth and return extra cash to shareholders instead. The two choices fit different stages of a business, and neither is automatically better.
Dividend yield is one useful number on a stock quote. Market capitalization is another. The next lesson uses market cap to show why a high share price does not automatically mean a large company.