
What you need to know about dividends
When the board of directors of a corporation decides to pay out its
earnings or part of its earnings in dividends, all its common shareholders
have a right to receive them. If the board of directors decides
not to declare a dividend, the shareholders receive nothing.
Companies are not legally required to pay dividends even if they are
profitable and have paid them in the past. In contrast, companies are
legally required to pay interest to their bondholders on their debt.
This is an important distinction for people who rely on regular
income from their investments.
Declaration of Dividends
If the receipt of dividends is important to you, you need to be
aware of these four dates:
* Date of declaration is the date on which the board of directors
declares dividends.
* Date of record is the date that determines which shareholders
are entitled to receive the dividends. Only shareholders
owning shares of the company on the date of record are
entitled to receive dividends. If shares are purchased after
the record date, the owners are not entitled to receive the
dividends.
* Ex-dividend date is two business days before the date of
record. Stocks traded on the ex-dividend date do not
include the dividend. When common stock is bought, the
settlement takes three business days to be completed. Thus,
if the record date for a company’s dividend is Friday, the
ex-dividend date is the preceding Wednesday. Investors
who buy these shares on Tuesday (the day before the
ex-dividend date) receive the dividend because the transaction
is recorded in the ownership books for that company in
three working days.
* Payment date is the date on which the company pays the
dividends.
Companies generally make their dividend policies known
to the public. Because investors use dividend payments, rightly or
wrongly, as a yardstick or mirror of a company’s expected earnings,
changes to dividend payments can have a greater effect on
the stock price than a change in earnings does. This phenomenon
explains the reluctance by management to cut dividends when
earnings decline. Similarly, a lag in increasing dividends might
occur when earnings increase because members of management
want to be sure that they can maintain any increases in dividends.
Shareholders who rely on income from their investments
generally purchase the stocks of companies that have a history of
paying regular dividends from their earnings. These companies
tend to be older and well established; their stocks are referred to as
income stocks or blue-chip stocks. Table 2–1 discusses the importance
of dividend-paying stocks.
Young companies that are expanding generally retain their
earnings; their stocks are referred to as growth stocks. Growth
stocks appeal to investors who are more interested in capital
appreciation.
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