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Dividends: Free money, what's not to love?

20 July 2012 Nico-Louis Minnie - Investment specialist at Liberty Liberty Life
Nico-Louis Minnie - Investment specialist at Liberty Liberty Life

Nico-Louis Minnie - Investment specialist at Liberty Liberty Life

Most people invest in the stock market in order to make money by watching the share they invested in, increase in value. But there is an important second way in which shareholders profit from the share market and I like to call it free money: dividends.

Dividends are your share of a company's profit. So for example if a company makes R1 000 profit, the board of directors may elect to return R300 of that profit to the owners of the company - the shareholders, and that's you and me. These dividends are typically paid once or twice a year when a company publishes interim and year-end results. They will be paid as a dividend per share, so if the company mentioned above has 100 shares and pays a R300 dividend that'll be R3 per share.

Nico-Louis Minnie, an investment specialist at Liberty, comments that, "The dividends received by a shareholder can be reinvested in the company thus giving you more shares without paying anything extra. They can also be used as a regular income if the investment is large enough. In other words, over time when our portfolio is large we could live off the ‘free money’ that is dividends.

It should be noted that not all companies pay dividends. Typically, it is the larger established companies paying dividends and Minnie also points out that, "Dividends are not guaranteed. So if you received a dividend last year, it is not a given that a dividend will be paid this year. Dividends are paid from profits so a company needs strong profits in order to pay a dividend.”

One can certainly invest in a company for the purpose of dividends and over time the amounts paid can become significant and eventually you could live off the dividends. Minnie comments, "Many funds are structured to provide a return that is based on a dividend income, these funds are often utilised as income funds since they pay regular income in the form of dividends. Although the dividends are not guaranteed, the investments are spread across many companies so the risk of not receiving a dividend is reduced. Unit trusts often have dividend income funds that do just that and it allows investors with smaller amounts of capital to also get exposure to dividend income." What's not to love?

The important thing with dividends is to own the share on the Last Day to Trade (LDT) in order to get your share of the ‘free money’. When a company’s results are published, they will announce the LDT in order for shareholders to receive the dividend. When you bought the shares or when you sell them does not matter.

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