What you need to know about dividends

Monday July 25 2016
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Stock brokers monitor trading activity at the Uganda Securities Exchange. For listed companies, dividend entitlement is guided by existence of shareholders on the register at a particular date called the book closure date. FILE PHOTO

A dividend, like interest, works in such a way that the company you have invested in pays out money to shareholders in harmony with the number of shares held.

It is about that time when companies are remitting financial year 2015 dividends to their share holders. One of the rights of a shareholder is dividend entitlement. A dividend is a sum of money paid regularly by a company to its shareholders out of its profits (or reserves). Shareholders have a claim on any profits a company pays out in the form of dividends.

However, the board and management of a company essentially have two options with profits: they can be reinvested back into the firm (hopefully increasing the company’s overall value) or paid out in the form of a dividend. It also worth noting that a shareholder does not have a direct say in what percentage of profits should be paid out - this is decided by the Board of Directors. However, whenever dividends are declared, common shareholders are entitled to receive their share.

For listed companies, dividend entitlement is also guided by existence of shareholders on the share holders register as at a particular date called the book closure date. Share holders on the register by the book closure date will be entitled to the receipt of dividend. This dividend is then paid out within 21 days from the book closure date as guided by the Uganda Securities Exchange listing rules (the stock market rules).

Two categories of share holders are entitled to receive dividends that is : common share holders who are entitled to receive their share when dividends are declared and Preferred shareholders (non-existent in Uganda’s stock market) who are guaranteed a fixed dividend whether the company makes a profit or not.

A dividend is generally considered to be a cash payment issued to the holders of company stock. However, there are several other types of dividends and these include, among others:

1. Stock dividend
A stock dividend is the issuance by a company of its common stock to its common shareholders without any consideration (this commonly known as a bonus issue). To record a stock dividend, a transfer of an amount equal to the fair value of the additional shares issued is made from retained earnings to the capital stock and additional paid-in capital accounts.

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2.Other non-monetary dividends
Here, a company may issue a non-monetary dividend to investors, rather than making a cash or stock payment for example property dividend.

3. Scrip dividend
A company may not have sufficient funds to issue dividends in the near future, so instead it issues a scrip dividend, which is essentially a promissory note (which may or may not include interest) to pay shareholders at a later date.

4. Liquidating dividend
This is a dividend paid when the board of directors wishes to return the capital originally contributed by shareholders as a dividend.

Measuring dividends
Receipt of dividends is one of the forms of returns a share holder will expect to receive from their investments in stock. However, dividends paid by companies vary in value similar to how interest paid on a fixed deposit in the bank varies from bank to bank. We usually measure dividend payment using the dividend yield (a comparison of how much dividend per share is being paid against the price per share) similar to how much interest one is receiving for the amount of money they are fixing with the bank. The higher it is, the better just like the higher the interest, the better for money on a fixed deposit account. The dividend yield also provides a comparison of returns between buying shares for dividends versus other assets on which one is to earn interest.

Secondly, it provides a comparison between the dividends paid by the different dividend paying companies. Some companies habitually pay higher dividends than others for different reasons.

Use of dividends
When dividends are paid out, share owners reserve the right of what to use their dividends for. Just like a business owner reserves the right to spend or re-invest their profits, dividends can also be re-invested. Most of the brokerage houses in Uganda provide an option for which share owners can re-invest their dividends if they wish to which usually provides a multiplier effect on total return on one’s investment in a stock than just what capital gains return would do.

Arthur Nsiko is a research analyst at African Alliance Uganda.

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