Dividend yield is the financial ratio of the quantum of dividends paid to shareholders against the market value per share. It is calculated by discounting the dividend per share by the market price per share and multiplying the result by 100. Companies with high dividend yields pay a significant share of their profits in the form of dividends. A company’s dividend yield is always compared to the average of the industry to which the company belongs.
Companies distribute a portion of their profits as dividends and keep the rest to re-invest in their businesses. Dividends are paid to the company’s shareholders. Dividend yields measure a quantum of earnings using the total dividends that investors make by investing in the company. It is usually expressed as a percentage. The formula for calculating dividend yield is dividend yield = dividend per share / market price per share * 100.
A company with a share price of Rs 100 declares a dividend of Rs 10 per share. In that case, the dividend yield of the stock is 10/100*100 = 10%. High dividend yield stocks are a good investment option during volatile times as these companies offer good payoff options. They are suitable for risk aversion investors. The caveat is that investors should check their valuation as well as the company’s performance of paying dividends. Companies with high dividend yields typically do not retain a significant portion of their profits as retained earnings. Their shares are called income stocks. This is in contrast to the growth stocks that companies invest to retain most of their profits in the form of retained earnings and grow their businesses. Dividends in the hands of investors are tax-free, and therefore investing in high-dividend yielding stocks creates efficient tax-saving assets. Investors also resort to dividend stripping for tax saving. In this process, investors buy shares just before dividends are declared and sell them after payment. In doing so, they get tax-free dividends. Typically, after dividends are paid, the share price drops. By selling shares after paying dividends, investors suffer capital losses and set it against capital gains.
Dividend yield is the financial ratio that measures the annual value of dividends to the market value per share of a security. In other words, the dividend yield formula calculates the percentage of the market price of a company that is paid to shareholders in the form of dividends.
Dividend Yield Formula
The dividend yield formula is as follows:
Dividend Yield = Dividend per share / Market value per share
Where:
- Dividend per share is the company’s total annual dividend payment, divided by the total number of shares outstanding
- Market value per share is the current share price of the company
Dividend yield ratio
Dividend yield is the financial ratio that measures the amount of dividends distributed to common stock shareholders against the market value per share. Dividend yields are used by investors to indicate whether their investments in stocks are generating cash flow in the form of dividends or whether asset values are increasing due to rising shares.
Investors invest money in stocks to get a return either by dividends or rising shares. Some companies choose to pay dividends regularly to increase investor interest. These stocks are often referred to as income stocks. Other companies choose not to issue dividends and instead re-invest this money in their business.
It helps investors use a dividend yield formula to analyze the return on investment in stocks.
Dividend yield ratio for the entire industry
Comparisons of dividend yield ratios should only be made for companies operating in the same industry – average yields vary widely from industry to industry. The average dividend yields for some industries are as follows:
- Basic materials industry: 4.92%
- Financial services: 4.17%
- Healthcare: 2.28%
- Industrial: 1.76%
- Services: 2.37%
- Technology: 3.2%
- Utilities: 3.96%
Interpretation of dividend yield formula
The dividend yield formula is used to determine cash flow attributable to investors who own shares or shares of a company. Therefore, the ratio shows the percentage of dividends per dollar of stock.
High or low yields vary depending on factors such as the business life cycle of an industry or company. For example, it may be in the best interests of fast-growing companies not to pay dividends. This money may be better used by re-investing in the company to grow the business.
Mature companies, on the other hand, are likely to report high yields due to the relative lack of future high growth potential. Therefore, the yield ratio does not necessarily indicate a good company or a bad company. Rather, this ratio is used by investors to determine stocks consistent with their investment strategy.
Analysis
Investors use a dividend yield formula to calculate the cash flow they are getting from investing in stocks. In other words, investors want to know how much dividends the stock is getting for every dollar it’s worth.
Companies with high dividend yields pay large dividends to investors compared to the fair market value of their shares. This means that investors receive high compensation for their investments compared to low dividend yield stocks.
High or low dividend yields are relative to the company’s industry. As mentioned earlier, tech companies rarely give dividends. So even a small dividend can create a high dividend yield ratio for the tech industry. In general, investors want to see the highest possible yield.
