Dividend Yield Ratio

Dividend yield ratio is the ratio of dividend per share to the current market price per share. It represents the component of total return that has resulted from dividend payments.

The holding period return that a company's common stockholders earn on their investment in the company's equity has two components: dividend yield and capital gains yield.

Different investors have different investment strategies and preferences. Some prefer return in the form of capital gain while others have immediate cash flow requirements. Together with dividend payout ratio, dividend yield ratio provides investors information about a company’s dividend policy.

A company’s dividend yield also features in the estimation of cost of equity in the dividend discount model. Cost of equity under this model equals dividend yield plus the growth rate of dividends.

Formula

The historical dividend yield ratio can be calculated by dividing the dividend per share paid during the last year by the current market price of a share of common stock. It can also be calculated by dividing total cash dividends paid by a company during a period by the total current market value of the company’s outstanding stock (i.e. the company’s market capitalization).

Dividend per share information are available in the company’s financial statements. Alternatively, it can be calculated by dividing total dividend payments by the total weighted-average number of shares.

Forward dividend yield can be estimated by obtaining the last dividend per share declared by the company, annualizing it, and dividing it by the current stock price.

Analysis

While the dividend payout ratio compares the amount of dividend paid by a company to the company's earnings for the period, dividend yield ratio provides a comparison of amount of dividend to investment needed to purchase the shares.

A company might be paying out a high, say 50%, of its earnings, but if the dividend payments are too low as compared to its current share price, the investors who prefer dividends over capital gains might not be attracted by even the high payout ratio.

Dividend yield should be analyzed in the context of the company’s industry and any share buybacks. A fast-growing company might not be paying any dividends resulting in zero dividend yield, but it might be generating very high capital gains for investors by plowing-back all its earnings in new projects. On the other hand, a company in a mature industry may generate a decent dividend yield for its investors but it may not have remarkably high future growth potential. Therefore, companies in mature industries have high dividend yield ratios.

Example

Calculate and analyze dividend yield for Apple, Inc. (NYSE: AAPL) and ExxonMobil Corp. (NYSE) based on the information given below:

Solution

Dividend yield and capital gains for AAPL and XOM over the three years are shown below:

Apple, Inc. dividend yield for 2012 is 0.1% which means that the company paid $0.1 per $100 dollars of current investment in the company’s common shares. Though the dividend yield is nominal, Apple, Inc. has generated exceptional capital gains during the same period through repurchase of shares and due to growth in its earnings and cash flow.

ExxonMobil Corp. is in a mature industry; therefore, it has higher dividend yield and moderate capital gains over the 3-year period.

by Obaidullah Jan, ACA, CFA and last modified on Apr 2, 2019