Reinvesting your dividends is a way to continue to increase your portfolio by purchasing more of your current holdings. You can reinvest your shares with a dividend reinvestment plan DRIP with your broker or with the company directly. Online brokerage firms typically have an account option to automatically reinvest dividends into additional stock shares.
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Select personalised ads. Apply market research to generate audience insights. Measure content performance. Develop and improve products. List of Partners vendors. Look anywhere on the web, and you're bound to find information on how dividends affect stockholders. The benefits to investors include steady flows of income.
However, an important part missing in many of these discussions is the purpose of dividends and why they are used by some companies and not by others.
Before we begin describing the various policies that companies use to determine how much to pay their investors, let's look at different arguments for and against dividend policies.
Some financial analysts believe that the consideration of a dividend policy is irrelevant because investors have the ability to create "homemade" dividends. These analysts claim that income is achieved by investors adjusting their asset allocation in their portfolios. For example, investors looking for a steady income stream are more likely to invest in bonds where the interest payments don't fluctuate, rather than a dividend-paying stock, where the underlying price of the stock can fluctuate.
As a result, bond investors don't care about a particular company's dividend policy because their interest payments from their bond investments are fixed. Another argument against dividends claims that little to no dividend payout is more favorable for investors.
Supporters of this policy point out that taxation on a dividend is higher than on a capital gain. According to proponents of this policy, a company's alternatives to paying out excess cash as dividends are the following: undertaking more projects, repurchasing the company's own shares, acquiring new companies and profitable assets, and reinvesting in financial assets.
Proponents of dividends point out that a high dividend payout is important for investors because dividends provide certainty about the company's financial well-being. Typically, companies that have consistently paid dividends are some of the most stable companies over the past several decades.
As a result, a company that pays out a dividend attracts investors and creates demand for their stock. Dividends are also attractive for investors looking to generate income. However, a decrease or increase in dividend distributions can affect the price of a security. The stock prices of companies that have a long-standing history of dividend payouts would be negatively affected if they reduced their dividend distributions.
Conversely, companies that increased their dividend payouts or companies that instituted a new dividend policy would likely see appreciation in their stocks. Yes, it is true. Some companies simply decide to pay out a part of their profit as dividends simply to maintain a high-level status.
We already know that dividend-paying companies are well-developed companies with lots of revenue to please their shareholders. Such companies, sometimes, see no other opportunities of reinvesting their profits than paying dividends.
They pay higher dividends and thus increase demand for their stocks that ultimately help them maintain a high-level status. We understand now why do some companies pay stock dividends but what about the other side of the spectrum?
Why do some companies not pay dividends despite so many positive reasons for paying dividends? The fact is, both sides of the spectrum have some good reasons. So, what are the reasons for not paying dividends?
Yes, a company can decide to temporarily pause dividend payments or ever stop forever. Financial crises and hardships make companies take drastic actions during drastic periods. The world has already seen General Motors GM do the similar.
GM paused dividend payouts during the auto industry crisis in to avoid bankruptcy. The company resumed dividend payments after six years in Again in , GM announced to pause dividend payments again on its common stocks to preserve cash.
Dividend stocks are those companies that promise to pay dividends to their shareholders. Such companies are generally well-established and developed with lots of revenue and profit. Dividends are a part of the profit that a company decides to share with its shareholders. There are multiple reasons for paying dividends. Companies look to foster goodwill among their existing stockholders, send a clear message of their financial stability and wellbeing, attract new investors, and increase demand for the stocks through dividends payout.
On the flip side, there is another very apt question. Why do some companies not pay dividends? But, the concept is the same. A high-quality company will often spell out to investors its priorities for using its cash. And here are 6 common priorities companies can choose from. Finally, they may be very cash-rich. So cash accumulates in their accounts and on their balance sheet. Companies reinvest in their business to sustain and grow profits. Business investment will usually fall into these categories:.
A company that makes smart business investments is positive for shareholders. For strategic reasons, companies use their cash to buy other companies. Generally speaking, acquisitions are done to accelerate growth and save money across the combined entities. When a company borrows money, it is contractually obligated to pay it back. Typically, debt comes with specific repayment terms.
So, a company must use its cash to satisfy those debt repayment terms. Or, they may be held in default of the debt. A default is not good. Management will go to great extremes to avoid going into default on company debt. On the other hand, a business may be going well and profits are high. In this case, a company may choose to pay its debt off in advance. Debt payoff for a company is similar to your mortgage.
You will go to great extremes to avoid a foreclosure. In contrast, life may be treating you well. You have generated some excess cash through work or investment.
Then you might consider paying off your mortgage early. For example, you or I can go buy shares of Apple stock in the stock market. And Apple management can do the same. There are several reasons a company chooses to buy its own share. But, those reasons are little out of scope for this article. We will save it for another day. Finally, a company may use its excess cash to pay dividends regularly.
Why do companies pay dividends? We will get to that in a moment. But first, companies that pay dividends regularly to shareholders typically have certain characteristics. I must generalize a bit on this subject.
Certainly, there are some dividend-paying companies that do not meet the typical profile. On the other hand, there are a few common characteristics to look for. When you want to find good dividend-paying companies. Because I have dedicated an entire article about how to find stocks that pay dividends.
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