Spotting dividends indicators
Dividends… a big buzzword amongst investors. But what are dividends? These are rewards paid to investors from profits made by the company. They can take the form of cash or additional shares.
For investors, just like an indicator of profitability, earnings per share (EPS) may also be used as an indicator of future dividend payouts. This is because if the EPS is higher, there are more opportunities for paying out some of the earnings in the short to long term.
Using earnings and dividends paid per share, investors can calculate their dividend payout on a per-share basis. The higher the payout, the more possibilities there are for a regular payout (for example, monthly instalments) – this is also dependent on the performance of the company – while a lower payout may mean more earnings are retained (reserved for future use) that may be distributed in the near future.
Dividend yield vs dividend payout
Unlike the dividend payout ratio which looks at how much is paid out from profits made, the dividend yield calculates how much investors can expect to receive in dividends as a percentage of the company's share price. Given that dividend yield is calculated using the current price, if a company is trading at $3 and the payout is maybe $0.10 per share, the dividend yield at the given time will be 3%.
Retained earnings
While all companies may not pay out all their profits, some of this money is held as retained earnings. These earnings, which can also be viewed as reserved profits, are used to expand the business or pay future dividends, say in the case where the company pays dividends multiple times.
Retained earnings refer to the percentage of the profits retained. This ratio is called the retention ratio. It is calculated by subtracting the annualised dividends from the net income, dividing the result by the net income and multiplying by 100. This helps investors to work out how much of the company’s revenue is reserved. These reserves may be distributed as dividends in the future.
Debt-to-Equity ratio
Debt may be considered risky. However, depending on how it's managed and contributes to the overall business, it can be used to position a company for long-term gains. Debt-to-Equity ratio helps investors understand how a company is managing its debt: a low Debt-to-Equity ratio indicates that a company has taken on fewer liabilities in financing its operations compared to a higher D/E ratio.
For instance, with mining companies, one of the common indicators of dividend payouts is commodity prices. As commodity prices rise, with demand remaining relatively high, mining companies often choose to pay out a chunk of their earnings through share buyback programs and dividend payouts – dependent on the size of operations.
A listed company will always keep shareholders updated on its dividends policy, either when the policy is reviewed or when dividends are expected within the short to long term. Reasons behind each decision are furnished in all communications.
