What Are Dividends – FAQ

Whether you are a new or a seasoned investor, there are many concepts of dividend investing that you must become familiar with. Below is a list of key terms that should answer most if not all of your questions regarding dividend investing.

  • What is a dividend?
  • What is a dividend stock?
  • How are dividends paid?
  • When do dividend stocks pay dividends?
  • What is an ex-dividend date?
  • How do you buy or sell a dividend stock?
  • Are dividend stocks safer?

What is a dividend?

The official definition of the word is:

a sum of money paid regularly (typically quarterly) by a company to its shareholders out of its profits (or reserves).

It appears simple enough but companies can also pay a distribution and the distinction between a dividend and a distribution is important when it come to your income taxes. REIT taxation differs from dividend taxation and those details are important when it comes to choosing which account you hold which holding.

What is a dividend stock?

To start with, a stock refers to a company traded on a stock exchange such as the Toronto Stock Exchange or the New York Stock Exchange for the purpose of raising funds.

A dividend stock is a stock that pays a dividend to its shareholders. The dividend payment term is usually quarterly, but there are companies that pay dividend monthly, semi-annually or annually. When it comes to investing, a dividend stock will have extra metrics that investors need to pay attention to.

Dividend Paid

The dividend paid is the amount of dividend the company pays to the shareholder. It is usually brought to an annual amount to calculate other important ratios.

Dividend Yield

The dividend yield represents the ratio of the annual dividend against the current share price. Based on the price you pay for your share, the ratio represents the income you can receive. The number can be used to have a gross comparison with interest rates for example. A dividend yield of 4% (as seen with Canadian Banks) beat the interest you can earn from a bank.

Dividend Yield Formula

When you invest in dividend growth stocks, the income you earn is expected to go up as the dividend increase. If you re-invest the dividend through a full DRIP or a synthetic DRIP, you can achieve compound growth with your dividend investments.

Dividend Payout Ratio

The dividend payout ratio represents the amount paid to shareholders from the earnings. The remaining amount is used for growth by the company. The higher the dividend payout ratio is, the less money the company has to invest in research or other methods to grow their revenue.

Different sectors will have different patterns and will retain a certain portion of their earnings to stay competitive. The amount kept after paying the dividend is referred to as retained earnings. Below is the formula for calculating the dividend payout ratio.

Dividend Payout Ratio Formulat

Anything above 100% signals the company is not capable of paying the dividend out of its earnings and can signal a future dividend reduction. It’s not a good place for a company to be in. When it comes to dividend stocks, the dividend payout ratio is an important metric to monitor.

Dividend Payment Schedule

The payment schedule is based on whether the company pays monthly, quarterly, semi-annually or annually. With a quarterly payment, the company pays using one of the following patterns:

  • January – April – July – October
  • February – May – August – November
  • March – June – September – December

How are dividends paid?

When you hold a stock from a publicly traded company, there usually is a middle man managing who owns shares and how many are held. Who owns shares and how many is important as the shareholder has the voting right by owning the shares. It must, therefore, be tracked with the ability to reach the shareholder.

Usually, a financial institution will be the middle man through either a wealth management firm or a discount broker. Transfer agents such as Computershare also manage employee stock plans as well as providing a service to investors.

The dividend is paid into the account where the shares are held or a cheque may be mailed to the shareholder depending on the service provided. With a discount broker, the payment is made to the account and it can be re-invested if the amount is enough to buy a share. With a transfer agent, you can receive a cheque or have all proceeds be re-invested. Transfer agents support fractional shares which allow them to reinvest all proceeds.

When do dividend stocks pay dividends?

Dividend paying stocks pay dividends on specific dates and usually, declare when they will pay a dividend and how much the dividend will be. The declaration is done with their quarterly financial update or through a separate communication.

The company will usually establish if it will pay a dividend quarterly or monthly. REITs tend to pay a monthly distribution due to their regular cash flow from rent. There are a number of monthly paying dividend stocks allowing investors to earn monthly income.

There is an assumption that a company will pay a certain dividend regularly and possibly increase the said dividend annually but it’s never a guarantee until the company declares it.

Monthly Payment Schedule

The company will usually pay on the same day every month and adjust it to fall on a business day.

Quarterly Payment Schedule

The company will usually declare their dividend according to one of the following schedule.

  • January – April – July – October
  • February – May – August – November
  • March – June – September – December

What is an ex-dividend date?

When a company declares a dividend, as outlined above, it identifies a number of dates that are important and may be taken into consideration when buying or selling. Missing the date can mean missing an opportunity to earn a dividend. All the important dates are identified below with their objectives.

Here is an example of a regular dividend payment by Johnson & Johnson NYSE:JNJMarket Trend .

Dividend Dates

Dividend Declaration Date

The date the company declared the dividend amount and identified the record and payment dates. Companies tend to make the declaration a routine process and will adjust the dates to fall on an open market day.

Dividend Ex-Dividend Date

The ex-dividend date is an important date when selling or buying shares. Due to the time it takes for a broker to record transactions between a buyer and a seller, the ex-dividend date was put in place to have a specific date for the last transactions to be executed on the markets. The days between the record date and the ex-dividend is put in place by the exchange where the stock is trading – typically 2 days.

Investors need to own the stock one day before the ex-dividend date to receive the dividend. Since the date is 2 days prior to the record and you must buy before the date, make sure your transactions is executed the day before. That’s 3 days prior to the record date or 1 day before the ex-dividend date. At that point, the seller is no more entitled to the dividend and the buyer will be entitled. You could then sell on the ex-dividend date and still be awarded the dividend.

Dividend Record Date

The record date is the official date decided by a company to determine which shareholders are eligible to receive the dividend (or distribution). All investors on record as per the record date will be identified to receive the dividend.

Dividend Payment Date

The date the dividend is scheduled to be paid by the company.

How do you buy or sell a dividend stock?

The DIY way is through a discount broker. You need to open an account with a discount broker. Some are affiliated with a bank and some are independent. Here is a list of discount brokers in Canada. Make sure you find the right fit. Some discount brokers are better for dividend investors.

Bank Affiliated Discount Brokers

Independent Discount Brokers

There are also transfer agents but the process to buy and sell is more time consuming to initiate a position and purchase times are pre-defined. It’s a good process when you are comfortable with buying regularly regardless of the stock price.

Are dividend stocks safer?

A dividend stock is as risky as any stock. When you invest in a dividend stock, you invest in a company that has decided to share some of its revenue with shareholders. It is still a company that must grow its revenue and profit in order to grow the stock price like any other publicly traded companies.

Are dividend stocks safer than regular stocks? No, they are not. Some companies may get in trouble and stop or reduce their dividend. However, there are thoughts that Blue Chip Dividend Stocks and Dividend Aristocrats (US or Canadian) or Dividend Achievers can help find companies that have had a history of success.

While some companies can have long standing dividend paying trends, past performance are not indicative of future performance. A saying we are all reminded now and again.