Dividend Payout Ratio: How to Calculate Your Earnings

Written by 
Tommy Syrmolotov
/
November 20, 2021

Answer: Samsung

Hover your cursor over the buildings and look at the connections between the companies
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Maths, percentages and dividends that companies pay out to their shareholders - photo

A dividend payout ratio tells investors how much cash a company retains for itself and pays investors in the form of dividends. The cash retained is used for capital reinvestment, debt servicing, and supplementing the company’s cash reserves. Dividend payout differs from dividend yield, which uses similar values, but gives a different perspective of a company's dividends.

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Knowing how to calculate the dividend payout ratio of a company helps investors estimate how much they can earn by investing in a certain stock and helps in building portfolio management strategies. Identifying which companies will have a high payout ratio and which will have a small dividend payout, which industry will be good for dividend investing. Knowing the indicators of a company allows investors to decide which industry or company can be invested in for potentially high earnings in dividends.

What is a Dividend Payout Ratio?

The dividend payout ratio lets investors figure out if a company can sustain certain dividend payouts over time. The dividend payout ratio formula is a ratio simply calculated by dividing the present dividend payment amount by its earnings per share. Learning to calculate dividend payout ratio is important since it tells investors how much of its earnings a company keeps for itself and how much it is giving its shareholders. Knowing how to determine dividend payout ratio allows experienced investors to build up some awareness about future income potential from a stock. 

The Purpose of the Dividend Payout Ratio

The dividend payout ratio is a helpful tool for comparing dividend stocks. The ratio shows how much of a company's net income is paid to shareholders through dividends.         

Please remember that the dividend payout ratio won't tell you how a company is doing financially. The ratio simply tells how a company is spending its earnings. Knowing a company's payout percentage is particularly useful if your strategy involves investing in dividend stocks to build a passive income stream. These indicators of a company

is also useful if you are looking to build up your principal by reinvesting dividends. 

Knowing what dividend payout ratio is and how to go about calculating it will be beneficial when planning to make earnings in dividends a part of your portfolio strategy.

The dividend payout ratio will differ for different companies across industries. It varies due to unique financial, operational, and investment situations. As investors, we must accept that no two companies' dividend payout ratios would be the same even in the same sector.

Older companies that are further on in their life cycle phase will have a high payout ratio as they won't need to inject as much capital back into the business. This leaves them with the financial capacity to pay more dividends for investors.

New companies will keep a small dividend payout ratio to retain enough funds for the company’s further growth.

Dividend Payout vs. Dividend Yield

The dividend payout ratio tells investors how much of its profit a company is paid to investors. In comparison, the dividend yield tells us the dividend payment per share compared with the market value of the same share. In a way, the dividend yield tells you, the investor, how much you will earn on the amount you spend on a share. Both values have their uses and applications in an investment strategy. 

The Formula For Dividend Yield:

Dividend yield formula - photo

The dividend yield gives us an estimate of the earnings in dividends from a stock. If we assume stable dividends, the yield value will increase when the stock price falls. The dividend yield will decline when stock prices rise. This rule is worth remembering since dividend yield can appear attractive, particularly in falling markets. 

This rule is a basic problem with the ratio, and it can trap unaware investors. Even if dividend payouts are generous, investors need to assess if the dividends are at the expense of company expansion and growth. This distortion is why most analysts prefer to use the dividend payout ratio with the dividend yield.

The DPR is seen as more dependable as it reflects how much of a company's earnings are being paid out to shareholders. Using both ratios together is strongly recommended. 

However, in some cases, focusing on dividend yield alone is beneficial. In the case of retirees, who need to build up income-generating portfolios, focusing on dividend yields would make sense. Tracking high historical dividend yields would help build up earnings in dividends and allow them to meet their post-retirement expenses. However, it is strongly advisable to use other ratios when building up an investment strategy.

Dividend Payout Ratio Formula

There are three different ways to do the dividend payout ratio calculation. All will yield the same value when used correctly. 

The formula for dividend payout ratio - photo

Retention ratio is the portion of net earnings that a company retains for its internal use. It is the reverse of the dividend payout ratio

The second way to calculate DRP - photo

We can also calculate the DPR for a single stock’s share price: 

The formula for single-share DPR - photo

Remember that the EPS of a company is its net earnings minus dividends paid to preferred stockholders. This value is divided by the average shares outstanding in a specific period. You can use the formula below:

Formula for EPS - photo

Another variation some investors prefer uses diluted net income per share instead of EPS. Diluted EPS subtracts options issued against the issued shares from the EPS value . This factoring makes diluted EPS a more realistic figure to use as it prioritizes the stocks in order of their rights to company earnings.

The formula for diluted EPS - photo

If you want to calculate these ratios on your own, you will find the values for net income, EPS, and diluted EPS at the bottom of the income statement. The balance sheet and the cash flow statements will both give you the figures for dividends paid, shares outstanding, and retained earnings. If you need to determine the value of dividends issued from the balance sheet, you can apply this formula:

Dividends paid formula NI + RE / Reclose - photo

Calculating the Dividend Payout Ratio

A real-time example of dividend payout ratio using Oracle (ORCL) financials. 

Net income of ORCL for FY 2021 was             $13,746 M

Dividends paid for the period were                 $3,063 M

(Financials accessed online)

 

Dividend payout works out to:                        3,063 / 13,746 M

                                                                           0.22287 = 22.28%                                      

ORCL Annual Dividend Payout ratio - photo

While the financial statements for most companies are available online, and the dividend payout ratio calculations are also straightforward, it is far more convenient to access an app that will work out all these ratios for you with just the name of the company ticker needed. Using an app like Gainy will reduce time spent searching up values for your calculations and allow you to focus on comparing ratios and stock’s share prices to decide which stocks to add to your portfolio. 

High and Low Dividend Payout Ratio 

How to read ratios

What is a low and high ratio? If you compare two stocks and get DPRs of 22% and 25%, which one should you pick? The real question here would be which company can maintain its DPR over time. For instance, if the company with 25% DPR for this year had a DPR of 10% last year and 20% the year before, we can safely assume that it is not in the habit of paying regular dividends. 

If company one has maintained its DPR between 20-22% for the past 3 or 5 years, we can assume that it has a strategy of paying steady dividends. There are some factors to consider in such a case, like the company's life cycle and industry standards. 

The levels of the DPR depend on a few generic variables, like the maturity of the company, reinvestment or expansion options, sector status. 

Life Cycle: If a company is a new entrant and in the growth phase of its life cycle, it would need to reinvest its earnings into the expansion and development of its market. This need for capital injection would leave it with a small dividend payout to give away in the form of dividends. Usually, new companies scrambling to expand usually pay no dividends for a few years. A prime example is Amazon, which was pouring its earnings back into its operations. 

Expansion Opportunities: at times, established companies come across or start on new projects for further growth, which require capital injection, due to which companies reduce or stop their dividend payments to their shareholders. In these cases, it is a case of waiting it out as the company will resume paying dividends at the level or higher before the project was started. 

Other Aspects to Consider

Trend Maintenance: The trend of the Dividend Payout Ratio should be maintained year on year. Keeping a stable dividend payout allows the company to retain its reputation as a good dividend issuer. While this doesn't impact financial or operational performance directly, it builds reputational strength and allows it to attract more potential investors in case of further share issues. Dividend giants like Shell, Colgate Palmolive are prime examples.  

Rising Dividend Payout trend: at times, companies aim to increase their dividend payout year on year to reflect their growth and indicate financial and operational strength. In my opinion, this should raise some flags if it is not a norm for the sector. While this should not be a criterion, in some sectors, like Real Estate Investment Trusts (REITs) and Master Limited Partnership (MLP), it is a regulatory obligation to payout 90% of profits in dividends to shareholders. 

Concluding Remarks

Along with the industry and maturity stage of the company, it is critical to compare the DPR in the framework of the company, its industry, and its competitors. The DPR will generate many insights when seen from the perspective of its sector and life cycle. Many companies offer shareholders value in other areas comparative to dividend payments. For example, generating cash flows to service and reduce debt will create shareholder value in the long term.

A key rule of thumb is that if a dividend payout ratio is over 100%, the company is disbursing more cash in dividends than what it is earning through its operations. While it seems great to get so much as a stockholder, this will not be sustainable over a long time if you want to keep the stocks in your portfolio. An improbably high dividend payout ratio should also be taken as a red flag, as at times, companies do this when they are not earning enough but don't what shareholders to sell their shares.  

There are many factors and variables to keep in mind when selecting and evaluating stocks for investing. Many apps help investors assess their options based on their investment purposes, capital amount, and risk preferences. Using them allows investors to build up their portfolios with relative ease and save on time and effort.

Using a failsafe means of selecting stocks helps to reduce investment and portfolio risks. This reduction is simple. Using digital technology helps cut down on human errors and bias in selecting stocks and allows for better and clear decision-making. Automated stock selection based on user specified preferences helps to cut down on errors in stock selection, and evaluation reduces risks to some extent. 

The Gainy app is a prime example of technology helping people. You won’t need to know how to calculate the dividend payout ratio, you’ll find all the important company info and metrics you need to know. You’ll get a personalized analytic toolkit, a convenient, personalized stock screener that provides investing insights, personal investment goals based on your existing portfolio, and our state-of-the-art fundamental market analysis.

FAQ

What does dividend payout ratio mean?

The dividend payout ratio tells investors how much of its profit a company is paid to investors. On the other hand, the dividend yield tells us the dividend payment per share compared with the market value of the same share.

What is Apple's payout ratio? How do you interpret a dividend payout ratio?

Calculating dividend payout ratio like our dividend payout ratio example above, the DPR comes to 16.31%. A high dividend payout ratio means that the majority of a company’s shareholders get its earnings in dividends. A small dividend payout means that the company is reinvesting dividends for further growth and a small portion is paid to investors. 

How is the monthly dividend payout calculated? What does a dividend payout of 30% indicate?

This is fairly simple: calculate dividend payout from the dividend payout ratio equation. If you have quarterly values, divide your answer by three to get the monthly DPR value. If you have annual values, divide your answer by 12 to get your monthly DPR value. As an example, DPR of 30% indicates that 30% of a company’s earnings are paid to investors, while 70 % are kept by the company to fund further growth plans.

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The Gainy App has several useful options for evaluating stocks, including DPR, Dividend yield, EPS, and diluted EPS values.
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