Investors buy shares to become a part owner of the company as well as for other reasons that include price appreciation of the share, dividend payment, build wealth, etc. When you buy shares of a company, you become eligible for receiving a part of the profits through dividends in the future. 

Having said that, there are different kinds of dividends. Indian companies distribute profits in several different ways and they are distributed at different intervals and purposes. Knowing the difference between various kinds of dividends can help you read a company’s financial health more accurately, plan your cash flows better, and avoid any mistakes while filing taxes.

In this blog, we will be discussing different kinds of dividends you are likely to receive as an Indian investor. 

Understanding Dividend

Whenever a company makes profit, the company is likely to deploy the profits back into the business to expand it or distribute it to its shareholders. 

This sharing of profit is done through dividends. A dividend is part of a company’s profit that its board of directors chooses to pay to the shareholders. These dividends are distributed from the company’s free cash flow which is nothing but the money that is remaining after the company has paid for its operations, capital expenditure, and working capital requirements.

When it comes to dividend payments, not all businesses pay dividends to their shareholders. Only big, mature, cash-generating corporations pay dividends. For example, major IT companies, PSUs, big FMCG companies, etc. often reward shareholders regularly. In contrast, small and fast-growing companies typically put whatever profits they earn back into the business for growth. If a company pays consistent dividends every year, then the company is considered financially healthy and stable. It is also a sign of financial discipline practiced by the company. 

Difference between Interim Dividend and Final Dividend

An interim dividend is paid by the company and received by the investor during the financial year. It means the dividend is paid before a company finalises its full-year audited accounts. In India, the financial year is from April to March and companies typically announce interim dividends when they announce their quarterly or half-yearly results. 

When a company pays an interim dividend, it means that the management is confident about their growth outlook and achieving it. The board can modify or even cancel an announced interim dividend if circumstances change before the year closes. 

Large-cap Indian companies regularly declare interim dividends in a year. This can be every quarter and it gives shareholders a steady stream of income, something like a second income. 

A company announces final dividend after the company’s annual financial statements have been audited. It requires official shareholder approval at the AGM depending on the board’s recommendation. Once accepted, under the Companies Act, 2013, the dividend has to be paid within 30 days of the AGM’s approval as it becomes a legal obligation for the firm. 

Stock Dividend

Stock dividends are a type of dividends where the shareholder receives extra shares proportionally. For example, the bonus issue of shares is a stock dividend. This is in contrast to cash dividends. Let’s say a company wants to reward its shareholders but wants to retain the profits, it will choose to reward its shareholders with stock dividends. 

For instance, if the company announces a 5% stock dividend, then the shareholder will receive 1 share for every 20 shares held. This is beneficial for the investor/shareholder because the shareholder will receive extra shares without having to pay for it. When extra shares are paid, the total value of the holding will be the same , but the per share value will reduce. 

However, stock dividends are somewhat risky compared to cash dividends because the price of the share can fluctuate and if the share price drops, the total value of the holding will also drop. 

Cash Dividend

This is the most common form of dividend which is paid out in cash. Eligible shareholders will receive the amount in their bank account linked to their demat account. A company might decide to give part of its earnings back to its shareholders as cash dividends. They are paid on a per-share basis and shareholders will get the proportional amount depending on the number of shares they are holding. 

For example, if a company announces cash dividend of Rs 7 per share and the investor is holding 200 shares, then the investor will receive Rs 1400 (Rs 7 x 200) in their bank account. These cash dividends are paid either quarterly, semi-annually, or annually based on the company’s dividend policy. The important date for the investor/shareholder to remember is the record date. Based on the record date only the dividends are paid. 

Scrip Dividend

Scrip dividend is somewhat same as stock dividends. Instead of stocks, the shareholder will be receiving scrips that are redeemable on the market for shares. Depending on the terms and conditions of the scrip, the actual conversion of scrips into shares may be on a later date. This leads to delayed equity issuance for the scrips held by the investor.

If a company announces a scrip dividend of 5% and a shareholder owns 500 shares of the company, the shareholder would get 25 more shares (5% of 500 shares) as a scrip dividend. The shareholder can either opt to keep these extra shares or sell them on the secondary market.

Liquidating Dividend

This kind of dividend is given by a company which is in the process of closing its business and liquidating its assets. Liquidation of assets means selling of the assets and converting into cash. This liquidating dividend is paid after the company settles all its outstanding debt and pending financial obligations. These liquidating dividends must be paid after the company follows a set of legal and regulatory rules and procedures. 

Property Dividend

A property dividend is a form of dividend payment by a company to its shareholders through any tangible assets like realty or intangible assets like patents. The shareholders will not receive dividends in the form of cash or shares but they will receive inventories, real estate, etc. 

Property dividends are less popular than cash or stock dividends. They are usually paid out when a company has a lot of assets including idle assets and can be distributed to its shareholders. This form of dividend enables the company to convert assets to cash or to transfer ownership of certain assets to shareholders. For instance, a technology company which owns a huge corporate building may distribute it to shareholders as property dividends. The shareholders would become the owners of the property and they can decide whether to lease it or rent it to generate income or just sell it and convert it into cash. 

Important Dividend Ratios 

1. Dividend Yield 

The dividend yield ratio is used to determine how much annual dividend income is paid by a company relative to its current share price. It also tells the return you get for every dollar invested in a stock.

Formula is (Annual Dividends per Share / Current Share Price) × 100

2. Dividend Payout Ratio

Dividend payout ratio shows whether a company pays cash dividends to its shareholders or keeps the profits to themselves and deploys it in their business to grow it. If the ratio is on the higher side or more than 100%, then the company pays more than it earns, which is not sustainable.

Formula: (Total Dividends / Net Income) × 100 

3. Dividend Coverage Ratio 

This ratio tells us how many times a company can pay its dividends using its net income. If the ratio is higher then the dividend is well-supported by earnings and less likely to get cut during tough financial times. 

Formula: (Earnings per Share / Dividend per Share) *100 or 

(Net Income / Total Dividends) * 100 

Conclusion

Dividends are of different types and each type of dividends serve a different purpose. If a company pays consistent interim and final dividends every year, it means the company is financially sound and healthy. It also reflects their disciplined capital allocation and they are confident about their growth prospects in the future. 

If you are an investor and want to build a dividend-focused portfolio, you got to look beyond the payout itself.  You should check the company’s dividend payout ratio, its free cash flow statements and whether the dividends paid are backed by strong earnings. In India, dividend income is taxed at your income tax slab rate, so it is worth factoring how attractive a particular dividend yield really is on a post-tax basis.

Frequently Asked Questions (FAQs)

1. What’s the main difference between an interim and a final dividend? 

An interim dividend is declared during the financial year after a strong quarterly or half-yearly earnings and it is declared by the company’s board of directors. A final dividend is declared after the year’s audited accounts are ready, approved by shareholders at the AGM. 

2. Is dividend income tax-free in India? 

No. All dividend income is taxable in the hands of the shareholder at their applicable income tax slab rate. TDS is levied on dividend income if a payouts from a single company crosses Rs 10,000 in a financial year.

3. Do I need to pay tax on dividends even if TDS was already deducted? 

If the total income including the dividend income is in the taxable bracket, then you have to pay tax accordingly. If the total income is not taxable but TDS amount has been deducted, you can file your income tax return and claim refund of the TDS. 

4. Does a stock dividend (bonus issue) increase the value of my investment? 

When a company issues bonus shares, the share price typically adjusts downward in proportion to the increase in the number of shares outstanding, so the total value of your holding stays roughly the same right after the issue.

5. How do I know if I’m eligible to receive a dividend? 

You need to own the shares before the ex-dividend date. The record date determines who officially appears on the company’s shareholder list as eligible for that particular dividend payout.