What is a dividend?Easy

Cash moved from the company's account to yours. The share price falls by roughly the same amount on the day, which is why a dividend is not free money.

4 min read · 633 words

The short answer: a dividend is cash a company pays out to its shareholders instead of keeping it. It is not interest, nothing obliges the company to pay it, and it can be cut at any time — which is the whole difference between owning a share and owning a bond.

The part that surprises everybody

On the day a share goes ex-dividend, the price drops by roughly the dividend. That is not the market disapproving: the company is worth exactly that much less, because the cash has left it. Buying just before the payment does not get you a free dividend; it gets you a smaller share and some cash, adding to about what you had.

Which means a dividend is not a return in the way it feels like one. It is a transfer from one pocket to another, and the return question is what the company does with the money it keeps.

Four dates, and only two matter to you

• Declaration — the board announces it.
• Ex-date — buy on or after this and you do not get this one. This is the date the price adjusts.
• Record date — who is on the register counts.
• Payment date — the money arrives, usually weeks later.

If you hold through the ex-date you are entitled, and that entitlement travels down the custody chain to you rather than arriving from the company directly — who actually holds your shares explains why that takes as long as it does.

Why a company pays one at all

A company with cash has four things it can do: invest it in the business, buy other businesses, pay down debt, or return it to shareholders. Paying a dividend is a statement that management has run out of uses it rates more highly than your own — which is a good thing from a mature business and a worrying one from a company that claims to be growing.

The other way to return cash is a buyback, which does the same job by making each remaining share a larger slice of the same company. Corporate actions sets the two side by side and carries a calculator that runs the same amount of cash through both.

What a high dividend yield can mean

Yield is the dividend divided by the price, so it rises when the dividend rises or when the price falls. A number that has doubled because the price halved is not describing generosity. This is worth stating flatly because the arithmetic is invisible in the quoted figure — and a dividend that a company cannot afford is usually cut, at which point both halves of the fraction have moved against the holder.

What to look at instead is whether the payment is covered by what the business actually earns and by the cash it actually generates. Reading an annual report says where to find both.

Where dividends show up elsewhere on this site

• Dividend futures and dividend swaps — instruments whose whole subject is what dividends will be.
• Option pricing — an expected dividend moves an option's value, because it moves the share on a known date. What an option is.
• A share lent out for securities lending — the borrower owes the dividend back, and the vote goes with the share rather than the claim.
• Withholding tax — a dividend from another country usually arrives with tax already deducted, and it appears on a broker statement in a place people miss.

The one sentence to take away

A dividend moves cash out of the company and into your account, and the share price falls by about the same amount that morning — so the useful question is never how much is paid but whether the business can keep paying it.