Dividend yield
Dividend yield is a ratio that shows the return a company pays its shareholders. It can be multiplied by 100 to give a percentage. The ratio is calculated as follows:
\(\mathrm{Dividend\: yield}=\frac{Annual\: dividends\: per\: share}{Price \:per \:share}\)
If two companies returned $2 on each share then investors with the same number of shares would make the same amount of money whichever they invested in. However, if Company A’s shares were priced at $10 each and Company B’s shares were priced at $20 each, Company A’s shares would provide a greater return relative to the market price of the shares. This is shown by the dividend yield, which for Company A is 0.2 or 20%, whereas for Company B it is 0.1 or only 10%.
DPS
The dividend per share (DPS) ratio determines the amount of dividend shareholders will receive for each of their shares over the course of a year. It is calculated as follows:
\(\mathrm{DPS}=\frac{Total\: dividend\: paid}{Number\: of\: shares\: in \:issue}\)
The total dividend paid is the total amount paid in dividends over one year. The number of shares in the issue refers to the number of common shares outstanding. A weighted average is often used to determine the number of shares in the issue when this varies during the year.
Dividends are paid to shareholders who are registered as shareholders on the ‘record date’, which the company declares in advance. The actual payment is made a short time later. Until the payment is made, the shares are traded ‘ex-div’ to make it clear that the declared but unpaid dividend will go to the seller – not the buyer – of the shares. Companies may also decide to make interim dividend payments during the year, normally just one. Both these payments need to be combined to work out the total dividend paid for the DPS ratio. Extraordinary dividends (dividends that are not covered in the company’s dividend policy and are not paid regularly) are not usually included in the DPS calculation.
Dividend cover
The dividend cover ratio gauges the ability of the company to pay out its dividends. It is calculated as follows:
\(\mathrm{Dividend\: cover}=\frac{EPS}{DPS}\)
So a company with an EPS (Earnings Per Share) of $6 and a DPS of $2 would have a dividend cover of 3. This means that the company’s earnings or profits cover its dividend payments three times over. Dividend cover helps investors gauge how easily a company is able to pay its dividends. A dividend cover of more than 2 is deemed relatively safe. It is possible for a company to have dividend cover of less than one. If this happens it means that the company must use any reserves to pay dividends, since this year’s profits are not enough.
A high dividend cover can be good or bad depending on the investor’s perspective. If an investor is looking for instant profits, he or she may be dissatisfied with a high dividend cover because it means that the company is not distributing a large proportion of its profits as dividends. However, this means that the money can be invested back into the business, so an investor looking for long-term growth may feel that a high dividend cover is ideal.
