“The only thing that gives me pleasure is to see my dividend coming in.” –John D. Rockefeller, founder of the Standard Oil Company.
Dividend yield or the dividend-price ratio of a share is the company’s total annual dividend payments divided by its market capitalization or the dividend per share divided by the price per share.
Dividend yield is used to calculate the earnings on investment considering only the returns in the form of total dividends declared by the company during the year. Dividend yield measures the amount of income received in proportion to the share price.
Dividends send a clear, powerful message about future prospects and performance of a company. A company’s willingness and ability to pay steady dividends over time and its power to increase them provides good clues about its fundamentals.
Dividend yield is a way to measure how much cash flow you are getting for each rupee invested in an equity position. Investors who require a minimum stream of cash flow from their investment portfolio can secure this cash flow by investing in stocks paying relatively high, stable dividend yields.
Dividend payments on preferred shares are set out in the prospectus whereas there is no stipulated dividend for common stock. Dividends paid to holders of common stock are set by management, usually with regard to the company’s earnings. There is no guarantee that future dividends will match past dividends or even be paid at all.
If a company has a low dividend yield compared to other companies in its sector, it can mean two things:
(1) share price is high because the market reckons the company has impressive prospects and isn’t overly worried about the company’s dividend payments.
(2) company is in trouble and cannot afford to pay reasonable dividends but at the same time, a high dividend yield can signal a sick company with a depressed share price.
Illustration: If two companies both pay annual dividends of Rs. 1 per share, but ABC company’s stock is trading at Rs. 20 while XYZ company’s stock is trading at Rs. 40, then ABC has a dividend yield of 5% while XYZ is only yielding 2.5%. Thus, assuming all other factors are equivalent, an investor looking to supplement his or her income would likely prefer ABC’s stock over that of XYZ.
Source : Ventura Securities Ltd.