The Dividend Payout Ratio



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The Dividend Payout Ratio is a very important piece of fundamental information to study when you are analyizing a dividend stock.

If you are new to dividend investing, or new to investing period, you may not be aware of this useful and important metric. The dividend payout ratio. The ratio can be explained simply as such. It is the percentage of profits that the dividend represents.

 

For example, if a company earns 0.10 cents per share in the 4th quarter and pays a 0.05 cent dividend in that quarter- then the quarter payout ratio is 50%. This means that the dividend paid is equal to half their profits aka earnings. In this situation, you know that, at least for now, your dividend is safe. This is because there are 50% more earnings that are being set aside for reinvestment or a rainy day.

Conversely, if a company earns 0.10 per share and payouts out 0.20 per share, then the dividend payout ratio is 200%. This is possibly unsustainable. If the company is a seasonal or cyclical business, this may be a seasonal adjustment. However, if these kind of payments are done regularly, then the company is piling up debt to pay their dividends. Eventually, the company will have to go bankrupt or cut their dividend.

This kind of situation is not generally one that is desirable to dividend investors.

The Ratio and You

When you are investing, you need to consider this ratio for several reasons. Most of these reasons are touched upon above. If you have a company with a consistently low ratio, not only are their payouts sustainable, but there is a possibility for increased dividend payouts in the future. Furthermore, the company could implement a share buyback program to bolster the stock price further. In either case, it is likely a win for the investor.

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