A dividend is the distribution of a company’s profit to its shareholders as a reward for investing in the company. Dividends are often distributed quarterly and may be paid out as cash or in the form of reinvestment in additional stock. Shareholders of dividend-paying companies are eligible to receive dividends as long as they own the stock before the ex-dividend date. Don’t worry we will learn more about the ex-dividend date and other important dividend dates.
why do companies issue dividends?
Dividend payments reflect positively on a company and help maintain investors’ trust. Many investors view a steady dividend history as an important indicator of a good investment, so companies continue to share their profits with investors through dividends. A high-value dividend declaration can also indicate that the company is doing well and has generated good profits.
The dividend yield is a ratio — expressed as a percentage — that shows how much a company pays its shareholders in dividends relative to its share price. This helps investors evaluate the potential profit for every dollar they invest, and judge the risks of investing in a particular company.
A good dividend yield varies depending on market conditions, but a yield between 2% and 6% is considered ideal.
What is the difference between an Interim Dividend and a Final Dividend?
This is the payment of dividends distributed to the shareholders of the company before the preparation of the final financial statements. Normally a company usually makes use of its cash reserves like retained earnings, which includes the profits of the previous financial years to make these dividend payments. This payment happens before the company conducts its Annual General Meeting (AGM) with shareholders. The board of directors of the company is the one that declares, vote on the issue, and approve the disbursement but shareholders can still dispute the decision.
This is the dividend distributed to a company’s shareholders after the company’s financial statements are prepared and issued for a specific financial year and is commonly announced in the annual general meeting of the company. Please note that the board of directors of the company merely proposes the idea. The shareholders of the company are the ones who take the issue into consideration, vote on the issue, and finally approve the disbursement of the final dividend. Final dividends are only paid out ONCE, unlike interim dividends which can be paid more than once and at any point in the financial year.
Since the final dividend is declared after the preparation and audit of the final financial statements, the company generally taps into its current year’s net profit generated by the company for funding the dividend payout.
Interim dividends that a company pays out are almost always accompanied by a final dividend.
However, in cases where the company pays out both interim and final dividends, the rate of the final dividend tends to be lower compared to that of a company that only pays out a final dividend.
There are FOUR important dates to note when it comes to dividends payment.
1. Dividend declaration date – This is the day a company releases its financials and declares the payment of a given amount of dividend. It is the date on which the board of directors announces and approves the payment of a dividend. The declaration includes the size of the dividend being issued and outlines the Book closure date and payment date.
2. Ex-dividend date – This is the trading date on (and after) which the dividend is not owed to a new buyer of the stock. Those who buy a company’s shares on or after the ex-dividend date are not entitled to a dividend. The company does not set the ex-dividend date – the ex-dividend date is set by the stock exchange where the company’s stock is traded.
NOTE: If you buy a stock one day before the ex-dividend, you will get the dividend. If you buy on the ex-dividend date or any day after, you won’t get the dividend.
At the same time, if you want to sell a stock and still get a dividend that has been declared, you need to hang onto it until the ex-dividend day.
The ex-dividend date is usually one business day before the Book closure date.
3. Book closure date – This is the day by which you must have bought the shares of a company for you to qualify for dividends. Also known as the Record Date. The record date is commonly confused with the ex-dividend date. Recall that the record date is set by the company, while the ex-dividend date is set by the stock exchange. The ex-dividend date is earlier than the record date because there is a settlement period for stock trades on exchanges.
On this date, the company identifies all of its current stockholders, and therefore everyone who is eligible to receive the dividend. If you’re not on the list, you don’t get the dividend.
For most stock trades, settlement occurs two business days after the day the order executes, or T+2 (trade date plus two days). For example, if you were to execute an order on Monday, it would typically settle on Wednesday. This means that for you to ensure that you are in the record books, you need to buy the stock at least two business days before the book closure date, or one day before the ex-dividend date. Let’s look at an example:
As you can see from the diagram above, if you buy on the ex-dividend date (Tuesday), only one day before the date of record, you will not get the dividend because your name will not appear in the company’s record books until Thursday. If you want to buy the stock and receive the dividend, you need to buy it on Monday the 5th.
If you want to sell the stock and still receive the dividend, you need to sell on or after Tuesday the 6th.
4. Payment date – This comes after or on the same day as the annual general meeting (AGM). Declared dividends are paid on this day using your indicated payment method.
How Do Dividends Affect a Stock’s Share Price?
Dividend payments impact share price and the price may rise on the announcement approximately by the amount of the dividend declared and then decline by a similar amount at the opening session of the ex-dividend date.
For example, if a company that is trading at $60 per share declares a $2 dividend on the announcement date, the share price may increase by $2 and hit $62 as the news becomes public.
On the other hand, if the stock trades at $63 one business day before the ex-dividend date, it is adjusted by $2 on the ex-dividend date, hence it will begin trading at $61 at the start of the trading session. This is because anyone buying on the ex-dividend date will not receive the dividend.
This is not guaranteed but often the price adjusts by the dividend on the ex-dividend date.