A dividend is money investors receive for a share of stock when a company is profitable for a set period. The compensation is divided between all the stocks, based on the ownership class of stock. Stocks may be classified as preferred or common stock. Dividends are divided evenly within each classification.
For tax purposes, the dividends an investor receives are typically considered taxable income. But if it meets the requirements to be a qualified dividend, the dividend amount is taxed at the capital gains tax rate.
When you divide a company’s net profit by the number of common shares, you get the earnings per share (EPS). This number is often used to show a company’s profitability.
What is a dividend yield?
A dividend yield is a ratio of the dividends paid out by a company compared to its stock price. Typically expressed as a percentage, this figure provides potential investors with an idea of how much money they may earn on a stock relative to its price. It’s calculated based on a company’s previous annual financial reporting, typically from either the past calendar year or the past four quarters.
While the estimate can be helpful for some investors to understand how much they can earn from a stock, it’s not a complete picture of the value of a company. For example, companies with falling stock prices may have high dividend yields, but that may not make them sound investments.
Preferred stock vs. common stock
The class of a stock affects the rights a shareholder has and how they’re paid dividends. Preferred stockholders have less say in the operation of a company. But they have more rights to receive dividends than common stockholders do.
Investors with preferred stock receive dividends at a fixed rate and must receive all their dividends before common stockholders. If a company’s profits are less than what it owes its preferred stockholders, the debt will carry over to the next dividend payment period. On the other hand, investors with common stock may be able to vote at stockholder meetings, while preferred stockholders usually don’t have voting rights.
