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Thursday, April 9, 2009

Stock Dividends ....

Stock dividends, many people believe in buying stocks of high dividend yielding companies for fixed steady income from stock markets. Usual risk still remains but dividend paying stocks are at little lesser risk than growth stocks. Let's understand what is dividend and how dividend paying stocks perform in stock markets.

DEFINITION:
A dividend paid as additional shares of stock rather than as cash. If dividends paid are in the form of cash, those dividends are taxable. When a company issues a stock dividend, rather than cash, there usually are not tax consequences until the shares are sold.

So now that we have understood what is dividend let's see in what conditions company gives dividends. As the definition explains, when a company have extra cash with it earned as profits, it pays dividend. Normally dividend paying companies have one business model with limited scope for growth in it's vertical. If a company have any plans to grow the business, company should re-invest the cash surplus in business and propel the growth for company rather than paying the dividends. In returns, investors would get the returns in terms of stock price appreciation.

Paying dividend management shows they do not have any growth plans and that they do not want to re-invest the money earned. Many of the promoters use this path to get profits out from company in the form of stock dividends and use it to invest in other businesses where they could generate more returns than existing business but only for themselves. Though investor gains dividend, he looses out the growth opportunity.

CHECKOUT:
Time To Invest For High Dividend Stocks
High Stock Dividend Yield Companies

o If the company's ROE and ROCE are above the normal rate of return, the company should use the excess cash to expand business rather pay off dividends.

o In case the opportunities for business expansion are limited and not forthcoming then one should not be invested in that stock because the market pays for growth only

o Companies that pay off a one time hefty dividend accept that there is no opportunity for expansion for at least a couple of years down the line. The Markets may take the stock up but after a while the price retraces.

o History shows that dividend yield acts only as a floor to a stock price but is never powerful enough to create market cap.

o "Far more stocks giving a bad performance come from high dividend paying companies rather then the low dividend paying group . An otherwise good management that increase dividends and thereby sacrifices worthwhile opportunities for reinvesting increased earnings in the business is like the manager of a farm who rushes his magnificent livestock to the market the minute he can sell them rather then raising them to the point where he can get the maximum price of above his costs. He has produced a little more cash right now but at a frightful cost" - Philip. A. Fisher

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