Friday, April 6, 2007

About Dividends and ex-Dividends

One of my investment strategies is to buy companies that pay dividends (i.e. dividend paying stocks). I want to talk about the mechanics of dividends. Basically, stocks could be classified into two categories: those that pay dividends, and those that don't. A lot of smaller, growth companies do not pay a dividend. Companies are not required to pay dividends, and each dividend must be declared by the company (usually at a board of directors meeting) before it is paid.

In the United States, most companies that pay a regular dividend do so every quarter. There are exceptions, however. For example, Eastman Kodak (NYSE: EK) pays its dividend twice a year. When looking at a finance site such as Yahoo Finance, the dividend is listed with the company stock quote. I estimate that 95% of the time this data is correct. However, sometimes it is inaccurate or outdated. For example, a current quote of NetBank (Nasdaq: NTBK) still indicates that it pays a dividend. However, NetBank has sustained a series of quarterly losses, and its management has decided to suspend that dividend early last year. So, its dividend is actually 0.

Typically, when dividends are announced, the company will usually issue a press release that says something like this:

The board of directors of Pfizer Inc today declared a 24-cent fourth-quarter, 2006, dividend on the company's common stock, payable December 5, 2006, to shareholders of record on November 10, 2006.

Let's dissect this statement. For 2006, Pfizer (NYSE: PFE) paid dividends of 24 cents per quarter or 96 cents for the year. The dividend was paid on December 5 to "shareholders of record" on November 10. In order to be a "shareholder of record" one has to own the stock 3 business days before the record date. In this case, that date is November 7. On November 8, the stock goes ex-dividend. What that means is that if you buy the stock on November 8 or later, you are not entitled to this particular 24-cent dividend. The term "ex-" in this case means "without". So as of November 8, the stock trades without the current dividend.

A common question about dividends is "What happens if you sell the stock on November 8 or later, but before the December 5 date when dividends are paid?" In this case, you would be entitled to the dividend, even though you don't own the stock on the pay date. This has happened to me several times where I've received dividends on stock that I no longer own.

PF Stock


Anonymous said...

In the Pfizer example, if you bought the stock on Nov 7 and sold the stock on Nov 8, doesn't that disqualify you on the shareholder record list as of Nov 10?

pfstock said...

Thanks for your comment. I had to look on a calendar to be sure of the answer. If you buy the stock on Nov 7 (trade date), it will show up in your account on the morning of Nov 10 (settlement date). On the settlement date, the brokerage deducts cash from your sweep account in exchange for the stock. If you sell the stock on Wednesday, Nov 8, the sale will settle in your account on the following Monday, Nov 13.

In this example, you would be the shareholder of record from the morning of Nov 10 until the morning of Nov 13. This sounds strange because you have already traded away the stock. Nevertheless, you "own" the stock at the close of business of Nov 10, so you are entitled to the dividend. Some investors actually use this method that you have described, which is known as a "dividend capture" strategy.