Methods for Determining Share Value Post-Dividend Payment
Methods for Determining Share Value Post-Dividend Payment
When a corporation dispenses a dividend, the corporate value dips by the magnitude of the dividend. This phenomenon might be tough to detect in companies that distribute small dividends, but you should notice it clearly in corporations with substantial dividend payouts, like real estate investment trusts (REITS).
One method of assessing a company's worth is considering the value of potential future earnings and the worth of assets not essential for daily operations.
Evaluating a Company's Worth
Assuming a company generates $3 in annual earnings per share, the market might assign a value of 10 times earnings, or $30 per share, based on the firm's robust business strategy and rival enterprise valuations.
The company boasts years of profitability, gradually amassing a surplus cash reserve displayed on its financial report. This surplus cash, not essential for daily operations, gathers interest in a savings account or even short-term U.S. Treasury securities, totaling $5 per share.
Valuing the company at $35 per share, the productive assets' earnings ($3 per share annually) are deemed worthy of a 10-times earnings multiple, accounting for $30 per share. The idle surplus cash is worth $5 per share. Add £30 and £5 to obtain a valuation of $35 per share for this company.
The Dividend Discourse
The Dividend Discourse
Suppose the company deems maintaining $5 per share in excess cash to be unwise for running the business. The corporation concludes that it would be more prudent to pay out $4 per share in dividend to shareowners and retain only $1 per share as an emergency corporate reserve.
On Dec. 1, 2015, the company declares the $4 dividend per share, specifying that it will be distributed to shareholders who own the stock on Dec. 11, referred to as the record date.
Employing the data available, we can deduce that shareholders on the record date will receive the dividend. Transactions in the United States take three business days to settle. Consequently, to be a shareholder of record on Dec. 11, one must buy the stock before Dec. 8.
On Dec. 9, the stock will enter the "ex-dividend" phase, signifying that any shares purchased on or after Dec. 9 will not include the dividend. At this point, you can expect the stock to decrease in value by the dividend sum ($4 per share).
The rationale behind this occurrence is as follows:
On Dec. 8, the company's shares trade for $35 per share. The future earnings are valued at $30 per share, the impending dividend is worth $4 per share, and the surplus cash remaining post-dividend payout is worth $1 per share.
On Dec. 9, the company's shares will trade for $31 per share. The future earnings remain the same at $30 per share, and the surplus cash retains its worth of $1 per share. However, shares purchased from Dec. 9 onward will not receive the dividend of $4 per share payable on Dec. 11. Demonstrating the concept that the stock value is theoretically reduced by the dividend per share on the ex-dividend date.
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Seeking a diverse collection of dividend-yielding stocks? These ETFs might meet your criteria.**Your broker should provide you with relevant dates for company dividend declarations, records, and payments. Additionally, they should inform you of the "ex-dividend" date for your shares. Keep in mind that the stock price is likely to fall when a stock goes "ex-dividend," particularly if the dividend is a significant portion of the share price.
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In the context of investing, some strategies involve reinvesting dividends to boost potential returns. For instance, if a shareholder receives a $4 dividend per share and chooses to reinvest it, the total number of shares they own will increase, leading to higher future dividend payments and potential capital appreciation.
Given the phenomenon of companies retaining surplus cash instead of paying out high dividends, it's crucial for investors to consider other factors like a company's financial health, growth potential, and management prowess when evaluating potential investments. These elements can provide a more comprehensive view of a company's worth and possible long-term performance.