Payout ratio

The formula

• p = 100 · D / EPS

D is the dividend per share and EPS the earnings per share for the same year. The percentage is the part of the profit handed to the owners; the rest stays in the company.

A worked example

A dividend of 4 on earnings of 10 per share: p = 100 · 4 / 10 = 40%. Six tenths of the profit is kept for the business. Turned round, a board that pays out 40% of earnings of 10 pays 4, and a dividend of 4 at a 40% payout implies earnings of 10.

Above 100%

A payout above 100% means the company paid out more than it earned, from reserves or borrowed money. It happens in a weak year for a company that would rather not cut the dividend, and it cannot go on. A payout that climbs towards 100% over several years is the warning before a cut; a payout that falls while the dividend rises is a company growing into it.

Payout, yield and P/E

The dividend yield is the dividend against the price, the payout against the profit, and the P/E ratio the price against the profit. The three are tied: yield = payout / P/E. A payout of 40% at a P/E of 15 is a yield of 2.7%.

Common mistakes

• Using total dividends against total profit with different share counts. Per share, both figures have to be per the same share.
• Reading a low payout as meanness. A company that keeps 80% to grow may be the better investment.
• Forgetting buybacks. A company that returns cash by buying its shares shows a low payout and a high total return.

Frequently asked questions