The Big Dividend Question – Dividend Stocks And Everything About Them

  • Oct 23, 2019 BST
  • Team Kalkine
The Big Dividend Question – Dividend Stocks And Everything About Them

A company is owned by its shareholders, and its management, with all the wit at its disposal, works continuously to maximize shareowner value. Running a business profitably is one thing but when it begins to rake in profits, the management is faced with a dilemma; what is the best way to deal with this surplus cash- is giving back all of it to the shareholders going to drive value, or will ploughing it back to the business is a better option? A company may also choose a middle path whereby part of the money is ploughed back, and the remaining is distributed among shareholders.

Though shareholders on their part usually view receipt of dividend as an addition to their wealth, sometimes they disapprove of it in favor of long-term value creation by the company. There have been instances where a board-recommended proposal for dividend has been rejected by the shareholders in favor of working capital preservation or impending corporate events like acquisition or merger.

Dividend payment to a large extent depends on which lifecycle stage a company is in. Generally, a large company which is in a moderate growth industry would pay out a large dividend. Such companies have had a successful long run, their businesses have expanded, operations have been streamlined, and they do not have any significant growth opportunities to pursue. These companies have surplus cash at their disposal, which they could distribute to their shareholders as dividends to maximize returns.

Given the moderate growth stage that these companies belong to, the prices of the stock are not very high compared to a high growth stage company and also it is generally observed that such companies have a long and stable history of paying dividends. In such circumstances, a high cash payout will certainly push up the share prices of the company, which is a signal of shareholder value creation. The value realized by the shareholders in such companies is generally a mix of dividend plus capital gains.

Generally, a company which is an early growth stage company will not pay any dividend or pay very less dividend. Such companies usually face a very high growth trajectory and would want to fund their growth instead of parting ways with the profits earned. These companies will rapidly employ more people, acquire more assets and equipment even by borrowing money to take advantage of the high- growth environment.

Cash for these companies is the most valuable commodity, and they would do the scouting for every opportunity to raise more and more cash. Such companies offer high risks with higher return prospects, with the value generated by the shareholders on their investments coming entirely from capital gains.

High Dividend yield - The dividend yield of a stock is the total dividend per share paid by the company divided by the market price of the stock. In other words, it can also be said as the total dividend paid out by the company divided by the total market value of all of its outstanding shares.

There can be many conclusions that can be drawn from the dividend yield of a stock, which would vary as per the set of circumstances revolving around it. Below, we will discuss various circumstances when a high yield dividend would be expected from a stock.

An exceptionally good business performance - It may so happen that during a particular period, the business has performed exceptionally and generates a significant amount of cash. In such circumstances, the management may declare a dividend which is a break from the quantum of earlier years’ dividend declaration. In such cases, the dividend yield of the stock for that period would be higher than the dividend yields for previous periods.

A corporate action – There can also be circumstances when a company may be prompted to pay out a higher dividend beyond what its business performance warrants. It may so happen that a company may have entered into a deal where it is selling off a part of its business at a significant profit, in such circumstances, it will become cash-rich in the short run with no immediate redeployment opportunities. In such circumstances, the company would either pay a high cash dividend to its shareholders or prefer to buy back its shares from the market at a premium to the current prices, both of which will enhance shareholders returns. Such circumstances are usually rare but do happen and make the shareholders of the company receive more cash rewards from their stockholding.

Liquidating Dividend- Although a rare event, but a company would pay a good dividend to its shareholders if it is going into a liquidation. Such a situation does not arise if the company is going bankrupt, but in case of business decides to go into voluntary liquidation, it will first satisfy all outstanding claims against it and if after that there are any remaining assets at its disposal whose combined value is more than the face value of its shares it will pay a liquidating dividend to its shareholders. This event is, however, in the nature of returning of capital to the shareholders in excess of the amounts they had invested into the company, instead of paying a portion of the earnings of the company.

Other Reasons - The stock market volatility could be another reason for a high dividend yield earned by the shareholders of a company. Temporary factors such as  an adverse macroeconomic event or an adverse political event or an event specific to the company that has got no relation to the business performance of the company, like for example the sudden death of its CEO or arrest of one of its directors on matters which does not relate to the functioning of the company, may pull down the share prices of the company in the stock market. if an Investor buys the shares of the company under such circumstances, dividend yield would be higher as and when the company pays a dividend as per its declared policy of dividend payments.

Not a reflection of good performance – Other than the situation when a company is in a growth stage and needs an increasing quantum of funds to expand its business activities, most other times companies try to conserve cash. This is to deal with an impending adverse economic or business environment when the company is expecting a contracted business activity. The company during such situations also has to pay for certain committed costs like salaries, rents and electricity bills, among others to keep functioning as a going concern. Under such circumstances the company may not pay any dividend or pay at a much lower rate. This action accentuates the prudent behavior of the management to work in the best interests of the company and its shareholders and should be seen as preservation of shareholders value.

Examples of high dividend payers on the London Stock Exchange

Below is a list of a few high dividend payers with appreciable dividend yields, that are listed on the London Stock Exchange.

  1. Aviva Plc– The company was founded in the year 2000 by the merger of two British insurance companies. Since then, Aviva has grown to have a base of more than 33 million customers in the general insurance, life assurance and pension business verticals. The company is part of the FTSE 100 index and had paid a dividend totaling about £1 billion in 2018.
  2. Rio Tinto Plc– The Australian mining behemoth listed on London Stock Exchange, Australian Stock Exchange and the New York Stock Exchange. The dividends paid by the company has been rising over the past four years. The company has announced in August 2019 to return more than £8 billion to its shareholders.
  3. Glencore Plc– Anglo-swiss mining and commodity trading company. It is part of the FTSE 100 Index. Dividends paid by the company has seen a significant increase in the past few years.
  4. Micro Focus International Plc – British IT major and a multinational software company. The stock is a constituent of the FTSE 100 index. Dividend rates have increased over the past five years except for 2019 when the company is facing integration issues with one of its acquisitions. Once the issue is resolved, it is expected to return to its historical dividend payout rates.
  5. Redrow Plc – Real estate construction company based out of the United Kingdom. The shares of the company are constituents of the FTSE 250 index. The company's dividend payout rate has consistently increased over the last five years. The company registered exceptional business performance for the financial year of 2018.

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