In finance, the dividend payout ratio is a way of measuring the fraction of a company's income that is paid out to investors in the form of dividends rather than being reinvested into the company for a certain period of time (usually one year). In general, companies with higher dividend payout ratios tend to be older, well-established companies that have grown significantly, while companies with lower dividend payout ratios tend to be newer companies with growth potential. tall one. To find the dividend payout ratio of a business for a certain period of time, use the formula Dividends paid divided by net income or Annual dividend per share divided by Earnings per share (EPS). The two formulas are equivalent to each other.
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Method 1 of 3: Using Net Income and Dividends
Step 1. Determine the net income of the company
To find out a company's dividend payout ratio, first find out its net income for the time period you're analyzing (one year is a common time period for calculating dividend payout ratios). This information can be found on the company's income statement. To be clear, you see the company's income after deducting all expenses, including taxes, business operating expenses, depreciation, amortization, and interest.
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For example, let's assume that Jim's Light Bulb, a start-up company, earned $200,000 in revenue in its first year of operation, but the company incurs $50,000 on the expenses listed above. In this case, Jim's Light Bulb's net income is 200,000 - 50,000 = $150.000.
Step 2. Determine the amount of dividends to be paid
Find out how much money the company paid out in the form of dividends in the time period you are analyzing. Dividends are payments given to company investors, instead of being saved or reinvested in the company. Dividends are not usually listed on the income statement, but are included in the balance sheet and cash flow statement.
Let's suppose that Jim's Light Bulb, being a relatively young company, decides to reinvest most of its net income by expanding its production capacity and paying only a dividend of $3,750 per quarter. In this case, we will use 4 x 3750 = $15.000 as the amount of dividends paid in the first year of business.
Step 3. Divide dividends by net income
Once you know how much net income a company generates and pays in dividends for a set period of time, finding the company's dividend payout ratio becomes easy. Divide dividend payments by net income. The value you get is the dividend payout ratio.
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For Jim's Light Bulb, we can find the dividend payout ratio by dividing 15,000 by 150,000, which yields 0, 10 (or 10%).
This means that Jim's Light Bulb pays out 10% of its earnings to its investors and reinvests the remainder (90%) into the company.
Method 2 of 3: Using Annual Dividends and Earnings Per Share
Step 1. Set the dividend per share
The above method is not the only way to find out a company's dividend payout ratio. The ratio can also be identified by two other pieces of financial information. For this alternative method, start by finding out the company's dividend per share (or DPS) value. It represents the amount of money each investor receives per share of shares held. This information is usually included in the stock's quarterly low and high (offered) value report, so you may have to add up more than one value if you want to analyze a full year's period.
Let's look at another example. Rita's Rug, a long-standing company, doesn't have much room for growth in today's market, so instead of using its earnings to expand its business, it pays its investors well. Let's assume that in K1, Rita's Rug pays $1 per share in dividends. In K2, the company pays $0.75. In K3, the company pays $1.50, and in K4, it pays $1.75. If we want to know the dividend payout ratio for the whole year, then we add 1 + 0.75 + 1.50 + 1.75 = $4.00 per share as our DPS value.
Step 2. Determine earnings per share
Next find the company's earnings per share (EPS) for the time period you specify. EPS shows the amount of net income divided by the number of shares held by investors, or in other words, the amount of money each investor would receive if the company hypothetically paid out 100% of its earnings in the form of dividends. This information is usually included in the company's income statement.
Let's assume that Rita's Rug owns 100,000 shares owned by investors, and that those shares earned $800,000 in the last year of business. In this case the EPS is 800,000/100,000 = $8 per share.
Step 3. Divide the annual dividend per share by earnings per share
Just like the method above, the only thing left to do is compare the two values you get. Find your company's dividend payout ratio by dividing dividends per share by earnings per share.
For Rita's Rug, the dividend payout ratio can be found by dividing 4 by 8, which yields 0.50 (or 50%). In other words, the company paid out half of its earnings in dividends to its investors in the last year.
Method 3 of 3: Using the Dividend Payout Ratio
Step 1. Calculate one special dividend, one payout
In fact, the dividend payout ratio only takes into account the regular dividends paid to investors. However, companies sometimes offer to offer one-time dividend payments to all (or only "part") of their investors. For the most accurate value of the payout ratio, these "special" dividends should not be included in the calculation of the dividend payout ratio. Therefore, the adjusted formula for calculating the dividend payout ratio that includes a specific dividend is (Total dividend - Special dividend)/Net income.
For example, if a company pays regular quarterly dividends totaling $1,000,000 for one year, but also pays out a special dividend of $400,000 to its investors after making unexpectedly large profits, then we can ignore this special dividend in our calculations. our payout ratio. Assuming net income of $3,000,000, this company's dividend payout ratio is (1,400,000 - 400,000)/3,000,000 = 0.334 (or 33.4%).
Step 2. Use the dividend payout ratio to compare investments
One thing people who have money and want to invest in do is compare different investment opportunities by reviewing the historical dividend payout ratios offered by each opportunity. Investors generally consider the size of the ratio (in other words, whether the company pays back its earnings to investors in large or small amounts), as well as the stability of the company (in other words, how widely the ratio differs from one year to the next). Different dividend payout ratios appeal to investors with different goals. In general, payout ratios, either very low or very high (as well as those that vary widely or decrease in value over time) indicate a risky investment.
Step 3. Choose a high ratio for fixed income and a low ratio for growth potential
As noted above, there are reasons why both high and low payout ratios may be attractive to investors. For someone looking for a safe investment, which has the opportunity to provide steady income, a high payout ratio can indicate that a company has grown to the point where it no longer needs to invest too much in itself, making it a safe investment. On the other hand, for someone who is looking for a lucrative opportunity with the hope of earning large returns in the long run, a low payout ratio may indicate that a company is investing heavily in its future. If the company turns out to be successful, this kind of investment can prove to be very profitable. However, this can also be risky, as the company's long-term potential remains unknown.
Step 4. Be wary of very high dividend payout ratios
A company that pays out 100% or more of its earnings as dividends may "look" as a good investment, but in reality, this could be an indication that the company's financial health is unstable. A payout ratio of 100% or more means that a company pays out more money to its investors than it earns. In other words, the company incurs a loss by paying its investors. Since this kind of practice is often not sustainable, it could be an indication that a significant reduction in payout ratios is imminent.
There are exceptions to this trend. Established companies with high growth potential in the future, are sometimes able to offer payout ratios of more than 100%. For example, in 2011, AT&T paid $1.75 dividends per share and earned only $0.77 per share. That means a payout ratio of over 200%. However, since the company's estimated earnings per share (EPS) in both 2012 and 2013 were more than $2 per share, the short-term inability to sustain dividend payments does not affect the company's long-term financial prospects
Warning
- Do not confuse the payout ratio with the dividend yield, which is calculated as follows:
- Dividend Yield = DPS (Dividend per share) / Market price of the stock
- Dividend yields can also be calculated by multiplying the Payout Ratio by EPS (Earnings per share), divided by the market price of a share.
