Learning Outcomes
- Calculate the dividend payout ratio
The dividend payout ratio is the ratio of the total amount of dividends paid out to shareholders relative to the net income of the company[latex]\left(\dfrac{\text{common stock dividends}}{\text{net income}}\right)[/latex]. The amount that is not paid to shareholders is retained by the company to pay off debt or to reinvest in core operations.
| Description | 2019 |
|---|---|
| Income before income tax | $314,000 |
| Income tax expense | 66,000 |
| Net income | Single Line$248,000 Double Line |
| Description | 2019 |
|---|---|
| Retained earnings, beginning of year | $2,198,000 |
| Net income | 248,000 |
| Less: Preferred stock dividends | 12,000 |
| Common stock dividends | 8,000 |
| Increase in retained earnings | 20,000 |
| Retained earnings, end of year | Single Line$2,426,000Double Line |
In this example, the dividend payout ratio would be [latex]\dfrac{\$8,000}{\$248,000} = 3.23\%[/latex].
For another useful analysis of dividends, we could calculate dividends per share on common stock:
[latex]\dfrac{\text{common stock dividends}}{\text{common stock shares outstanding}}[/latex]
For example: [latex]\dfrac{8,000}{\frac{83,000}{\$10}}=\$0.96[/latex]
Shares outstanding are usually disclosed on the face of the financial statements, but in the case of Jonick, we can figure out the number of shares outstanding even though it isn’t disclosed overtly, by dividing the common stock dollar amount by the par value per share given ($83,000 in common stock with a $10 par value would be 8,300 shares issued and outstanding).
| Description | 2019 |
|---|---|
| Retained earnings, beginning of year | $2,198,000 |
| Net income | 248,000 |
| Less: Preferred stock dividends | 12,000 |
| Common stock dividends | 8,000 |
| Increase in retained earnings | 20,000 |
| Retained earnings, end of year | Single Line$2,426,000Double Line |
| 2019 | |
|---|---|
| Stockholders’ Equity | |
| Preferred $1.50 stock, $20 par | $166,000 |
| Common stock, $10 par | 83,000 |
| Retained earnings | 2,426,000 |
| Total stockholders’ equity | $2,675,000 |
| Total liabilities and stockholders’ equity | Single Line$3,950,000Double Line |
Therefore, $8,000 in dividends equates to an annual dividend payout of $0.96 per share.
If this was a publicly traded company or if there was a readily available market value per share (e.g. an offer to buy the company on the table or a recent purchase), we could also calculate the dividend yield by dividing the dividend per share by the market price per share.
For this example, assume we have an established market price per share of $70.
With a dividend payout of $0.96 and a market price of $70, the dividend yield would be [latex]\dfrac{.96}{70} = 0.01371429…[/latex] or approximately 1.4%.
For an investor looking for income, rather than growth, this number would allow a comparison between different alternatives. For instance, if low-risk tax-exempt municipal bonds were paying 2%, an investor might opt for the bonds over an investment in the stock.
Now, let’s practice what you’ve learned.
PRACTICE QUESTION
