What Is Dividend Yield? Understand This Important Financial Metric

Read on to understand more about the concept of dividend yield in detail.

<div class="paragraphs"><p>Source: Jason Briscoe on Unsplash&nbsp;</p></div>
Source: Jason Briscoe on Unsplash 

What is Dividend Yield?

In simple terms, the dividend yield is the financial ratio between the amount of money that a company pays out as dividends every year, compared to the price of the said company’s stock. The dividend yield ratio is generally expressed in the form of a percentage. Since the dividend paid out each year by a company can change depending on the profits and expenses, the dividend yield is an estimated ratio of dividend returns in comparison to the stock price. Moreover, the dividend yield can change depending on the change in the price of the stock or the change in dividend payout. For instance, if the amount of dividend paid out increases while the stock price remains the same, the dividend yield ratio will increase and vice versa. On the other hand, if the stock price increases while the dividend paid out remains the same, the dividend yield will fall and vice versa. 

Formula For Dividend Yield

The official formula for calculating the dividend yield of a company is: 

Dividend yield = Annual dividends per share/Price per share 

The dividend yield can be calculated from a company’s last year’s financial report. Alternatively, the dividend yield can also be calculated by taking into account the dividends of the last four financial quarters. Moreover, many people also take the method of multiplying the last financial quarter’s dividend by 4 and then determining the dividend yield based on the share price. Using this approach accurately reflects any changes in dividend payouts and changes in share prices. 

Understanding Dividend Yield

Since dividend yields always take stock price into consideration, it is possible that this ratio would be very high for companies whose stock price is falling. As a general rule, newer smaller scale companies that still growing and scaling up their businesses may pay out smaller dividends since they have to reinvest for business expansion. Meanwhile, mature companies that have captured a large market share and aren’t growing so quickly anymore usually pay higher dividends. Moreover, companies that are involved in the business of selling necessary and utility items like groceries, medicine, etc, also offer higher dividends than companies involved in other industries. 

When it comes to technology companies, the dividend yields are generally lower than in other sectors as a lot of investment is needed in the design, research, development and marketing of new products. However, over the past couple of decades, tech stocks like Apple, Microsoft, Qualcomm, Amazon, and many others have grown at incredible speeds and provided very high returns to early investors. However, the idea that mature companies pay better dividends than growing companies still applies to tech companies as well. 

Moreover, there are certain types of companies that offer very high dividends. In the US, Real Estate Investment Trusts (REITs) offer some of the highest dividends to shareholders in comparison to dividends paid out by other companies, so their dividend yield is very high. Similarly, Business Development Companies (BDCs) also provide higher-than-average dividends in the US. Some companies are also structured in a way that they are required to pass on the major part of their profits to shareholders. However, the taxes on these dividends are also increased in the US, and they are treated as regular income.