Dividends represent a distribution of corporate earnings to company shareholders and usually take place in one of two forms — cash or stock. Each organization’s board of directors determines the actual dividend amount that the firm will pay out. Most cash dividends are paid in conjunction of a quarterly result announcement though it is not mandatory to have dividend payout each quarter. Most companies have Dividend Payout Policy in the form of a minimum % of the Net Profit.
Why is Dividend payment matters? Many investors rely on dividend payments as a source of income. Say you are retired and hold a significant proportion of your investment portfolio in stocks. Even if share prices of your stocks increase over time, you will be unable to realize these capital gains until you sell your shares. However, if these stocks pay dividends, you will receive a income distribution for your share of the companies’ profits. Also, bear in mind that only profitable companies should pay dividends hence dividend payout is a form of indication for companies’ profitability.
Dividend yield is a stock’s dividend as a percentage of the stock price.
How it works/Example:
The formula for dividend yield is:
Dividend Yield = Annual Dividend / Current Stock Price
For example, let’s assume you own 1000 shares of Company XYZ, which pays $0.50 per share in annual dividends. If the current stock price is $12.00, then using the formula above we can calculate that the dividend yield on Company XYZ stock is:
$0.50 / $12.00 = .0416 = 4.16%
In general, the higher the share price goes, the lower DY would be. So, a stock becomes unattractive when the price has gone up too much but dividend remains the same.
One note of caution is that value investor should not fall into the trap of “Chasing high DY stocks“. In my opinion, one should look into Dividend payout hand in hand with company’s profitability. If Net Profit grows year by year, coupled with increased yield of dividend, that would mean the company does reward shareholders with handsome dividend as a result of improved performance. One other area to look into is the Net Cash position of the company. A company might be profitable but having negative net cash after deducting Expenses from Financing activities or due to Investing activities. If the company borrows money to pay out dividend, that isn’t a good candidate for value investing. Why? Imagine the money (dividend) you receive is coming from a loan that needs to be paid back eventually with interest and principle, so what you are getting isn’t actually a result of excellent company performance but instead a debt that will eventually coming from shareholder’s pocket. In short, beware of gimmicks used by some companies to lure spectators in exchange for artificial good valuation in the hype of “High Dividend Payout Stocks”.
The screen shot below show how Equities Tracker could be used to search for dividend stock.For instance, I used the the following criteria:
1) Minimum 10 years of continuous annual net profit
2) Minimum 10 years of continuous dividend payout
3) Dividend Yield of 4% or above
4) Minimum 10 years of continuous positive Operating Cash Flow
You can add more stringent selection criteria such as P/E ratio between x and y, etc.
The result should give you a good list of dividend yield stocks to start with. You can then apply other value stock selection criteria such as the qualitative measurement (management’s quality, line of business, competitors), its current ratio, debts to equity ratio, EPS, etc.