Why Do Companies Pay Dividends?

Good Morning Everyone and Happy Tuesday! Today is the next post in our “Investing: The Ins and Outs of Dividends” series.  We have already discussed investment strategies, we have discussed the benefits of investing in dividends, and we have discussed what we need to know about investing in dividends. Today we are going to continue on with our series and discuss why companies pay dividends to their investors.  It’s important to know the benefits of dividend investing and why companies pay dividends because then we can fully understand what dividend investing is all about.

 

Dividend Investing

Dividend Investing is when investors purchase Stocks or Mutual Funds that pay out regular dividends to their unit holders, dividends are usually paid out on a quarterly basis.  Mutual Funds are pooled investments that purchase several stocks or bonds in one investment portfolio.  If we are investing in a Dividend Mutual Fund then that Mutual Fund purchases the stock of several companies that pay out dividends to their investors.  If we buy an individual stock then the dividends are paid out to us directly because we are the shareholder. If we hold stocks through a Mutual Fund the Mutual Fund is the shareholder and they will receive the dividends directly from the company.  Then the Mutual Fund pays them out to us, the Mutual Fund holders.

Investopedia describes a Dividend as “a distribution of a portion of a company’s earnings, decided by the board of directors, to a class of its shareholders. The dividend is most often quoted in terms of the dollar amount each share receives (dividends per share).  It can also be quoted in terms of a percent of the current market price, referred to as a dividend yield.

There are two classes of shareholders, the first type of shareholder is a preferred shareholder and the second type is a common shareholder.  The difference between the two is that preferred shareholders receive their dividend payments first but they do not have voting rights as shareholders.  Common shareholders may not necessarily receive dividends and therefore they are only purchasing the stock in hopes that the unit price will increase and they will have a capital gain.  However, common shareholders do have voting rights.

 

Why Pay Dividends

Companies pay out dividends to their shareholders for a number of reasons including increasing the number of shareholders as well as raising money for future expenses.  When companies pay dividends investors are more likely to buy that stock if they are looking for a regular income stream trough the quarterly dividend payouts. Stocks pay dividends to shareholders because they chose not to retain their profits; they chose to pay them out.

If investing in individual stocks to receive dividends is too risky of an investment for your personality then you can start to invest in companies that pay dividends through a Mutual Fund.  If you do decide to invest be sure to check out the Mutual Fund profile beforehand because it has a lot of important information about the Mutual Fund such as any applicable fees as well as the Mutual Fund investment strategy.

Mackenzie Financial has a US Dividend Income Fund and the investment strategy states that “the US offers one of the world’s largest pools of stable, dividend paying companies from which the manager can choose to invest. Dividends are a significant contributor to long term investment returns. Companies with a pattern of stable and increasing dividends tend to outperform the broader market over the long term.”  If the investment style of a Mutual Fund suits your investment objective then it may be the right investment for you.

 

Be sure to check out the previous posts in our “Investing: The Ins and Outs of Dividends” series:

New Investment Strategies for the New Year

Why You Should Consider Investing in Dividends

What Dividends Are All About

 

Photo by Ricardo