What are Dividends?
Dividends are amounts of money paid periodically (typically every quarter) by companies to its shareholders as a means of distributing its profits. Confused? Read on!
How Dividends Works
Let’s say you started a pizza business, but you don’t quite have enough savings for capital. So, you find someone ready to invest in your business, and in return for his investment, you give some shares to him.
Your first outlet is a major success and generates a healthy profit. You use those profits to open more outlets. After a number of years, your business expands to a point that your pizza shop’s biggest competitors are your other outlets. This is also called market saturation.
At this point, you no longer have a pressing need to expand. In turn you begin paying back part of the profits to investors. This “profit payout” is a dividend to your investors.
Dividend amounts vary according to a business’ performance and priorities. Companies generally commence dividend payouts when business expansion begins to slow and profits no longer need to be reinvested to expand it. Dividend rates differ depending on the industry. Telecommunications / utilities companies and real estate investment trusts (REITs) usually pay out higher dividends, while internet / e-commerce and biotech companies pay less (and occasionally none!).
So, investing in shares does sound a little bit like gambling. Is it? Read our beginner’s guide to investing in shares to find out!