Dividends are corporate profits that a corporation elects to pay out to its shareholders. Dividends are at the discretion of a corporation: it can start, end, increase, decrease, omit or suspend them at any time. Dividend decisions are made by the board of directors. Dividends are typically paid quarterly. A dividend increase is usually welcomed by the shareholders because it is cash in their pockets. A corporation may have several reasons to increase dividends.
Share Profits
The most common reason to increase dividends is to share the profits with the shareholders. A corporation needs money to expand and grow, so it rarely pays out all profits in dividends, but it may have a particularly good year where it has generated more profits than it needs for its operations, so it decides to pay out more in dividends.
Bolster Stock Price
A dividend increase often pushes up the stock price. For example, a corporation pays a $1 annual dividend, and its current stock price is $20, meaning that its current dividend yield is 5 percent ($1 ÷ $20). If the dividend is increased by 10 percent to $1.10, the market will adjust the stock price to continue to yield 5 percent, that is to $22 ($1.10 ÷ $22 = 5%) because investors are willing to pay more for a higher dividend. By increasing the dividend by 10 cents, the corporation effectively boosted the stock price by $2, so the net benefit to the shareholders of a 10-cent dividend increase was $2.10 per share.
Continued Tradition
Some corporations in mature industries such as utilities have a long history of dividend increases. These companies generate ample cash from operations, which they do not really need to grow, so a profit increase usually results in a dividend increase. Investors in high dividend-paying stocks expect those increases (that’s why they own those stocks in the first place) so the corporation simply does what has traditionally been expected of it. Sometimes a company may have lower profits for a year but will still increase the dividend just to live up to its reputation, hoping that the next year it will make up for the shortfall.
Dividend Yield vs. Increase
Many investors hunt for the highest dividend-yielding stocks, but the real value is in dividend increases, because if a stock you own increases dividends faster than the rate of inflation, you in effect own an asset that produces a rising income stream that provides protection against inflation. Knowing that, corporations may pay fairly small dividends as measured by dividend yield (for example, 1 percent) but increase them at a rate higher than the rate of inflation.
References
- “PassTrak Series 7: General Securities Representative License Exam;" Dearborn Financial Services; 2003
- U.S. Securities and Exchange Commission. “Ex-Dividend Dates: When Are You Entitled to Stock and Cash Dividends.” Accessed August 13, 2020.
- Unilever. “Dividend history.” Accessed August 13, 2020.
- Walmart. “Walmart Raises Annual Dividend to $2.16 per Share, Marking 47th Consecutive Year of Dividend Increases.” Accessed August 13, 2020.
- Microsoft. “Microsoft Outlines Quarterly Dividend, Four-Year Stock Buyback Plan, And Special Dividend to Shareholders.” Accessed August 13, 2020.
- Energy Infrastructure Council. “AN INTRODUCTION: MASTER LIMITED PARTNERSHIPS,” Page 7. Accessed August 13, 2020.
- U.S. Securities and Exchange Commission. “Real Estate Investment Trusts (REITs),” Page 1. Accessed August 13, 2020.
- Tax Foundation. “Dividend Tax Rates in Europe.” Accessed August 14, 2020.
- Yahoo Finance. “General Electric Company (GE).” Accessed August 13, 2020.
- GE. “GE Plans to Reduce Quarterly Dividend in Conjunction with Revised Capital Allocation Framework.” Accessed August 13, 2020.
- The Nobel Prize. “THIS YEAR’S ECONOMICS PRIZE AWARDED FOR PIONEERING STUDIES OF SAVING AND OF FINANCIAL MARKETS.” Accessed August 13, 2020.
- JSTOR. “Dividends, Earnings, and Stock Prices.” Accessed August 14, 2020.
- Deliotte. “International Tax - Hong Kong Highlights 2019,” Page 1. Accessed August 14, 2020.
Writer Bio
Based in San Diego, Slav Fedorov started writing for online publications in 2007, specializing in stock trading. He has worked in financial services for more than 20 years, serving as a banker, financial planner and stockbroker. Now working as a professional trader, Fedorov is also the founder of a stock-picking company.