Dividend Payout Formula

Dividend Payout Formula

Dividend payout formula has been shown below. This formula is called dividend payout ratio. This formula has been explained with an example;

Dividend Payout Ratio =            Dividend During the Year     x100                                                      EPS or Earning

Dividend payout ratio represent the proportion of profit has been distributed among equity holder. Dividend payout ratio may be calculated by simply dividing the dividend for the year by the earning for the year.

Dividend Payout Formula Example

Dividend Announced = 50 cent

Earnings per Share   = 80 Cent

Calculate Payout ratio of the company?

Solution

Dividend Payout Ratio =            Dividend during the year    

                                                     EPS or Earning

Company A = .5  x 100  

                     .8

=62.5%

It means that company has paid 62.5% of its earning to the equity holder and remaining 37.5% is retained by the company.

Significance of Dividend payout Ratio

Dividend payout ratio provides useful information for investment decision. For example a company has bright future aspects and offering high payout ratio, then investor would like to invest in such company. High payout ratio also reflects management confidence over the company future performance.

Reasons for High Payout Ratio

One of the major reasons of high payout ratio includes sufficient surplus or free cash flows. Other important reason for high payout ratio may be no immediate expansion plans or projects. One of the reasons of high payout may be boosting of the share price in the market. Reason for high payout ratio also includes maintain a high payout trend. Reasons may be listed below

1.    Available of high cash or liquidity

2.    Share price boosting

3.    Maintaining a trend of high dividend payment.

Reasons for Low Payout Ratio

One of the major reasons for low dividend payout ratio is liquidity problem (Company does not have sufficient cash for high dividend payment). The other reason of low payout ratio may be internal financing of new projects. Some companies also follow a dividend payment trend (A company may have a low payout trend).

1.    Low Liquidity (Limited Cash) with the company

2.    Internal financing for new projects(use cash for new project instead of dividend payment)

3.    Following a trend of dividend payment

Dividend Payout Consideration

1.    Liquidity Position

One of the primary considerations for the dividend payment is cash availability or liquidity position. Management would like to keep sufficient cash for the operation and remaining surplus cash can be paid as dividend to the equity holders.

2.    Internal Financing of Project

Other consideration is financing of new project , if company want to implement new project in the future and it has plans to finance such project internally, then company payout ratio would be low (in some cases company may decided to pay no dividend).

3.    Share Price

Third important dividend payout consideration is shareholder expectation or share price in the stock exchange. Market value of the firm is more relevant than book value, and market value is determined in relation to the market price, therefore company would love to maintain high market value of company.

Consideration of Dividend payout may be listed as under

1.    Cash flow position or liquidity position of the company

2.    Financing of new projects

3.    Share price in the stock exchange.