The Hindu Business Line : A date with dividends

You may often come across market buzz about company X and a “strong” possibility of it announcing a handsome dividend over the next few days. Even the possibility of a dividend or bonus props the share price. Yet, when the stock goes “ex”, its price drops. Why does this happen?

Blind dates

There are four major dates in the process of a company paying dividends. These are declaration date, ex-date, date of record (record date) and date of payment.

The declaration date is the day on which the board announces to shareholders (through notices to the stock exchange) and to the market (through newspaper advertisements) that the company will pay a dividend.

To determine which shareholders will be entitled to dividend payment, as the stock keeps changing hands on a daily basis, a record date is set. The record date is the day on which the company looks at its records to see who its shareholders are. A person must be listed as a holder of shares in its records to have the right to receive a dividend from the company.

If you do not own shares of, say, a company Indian Beet Roots (IBR) but would like to buy the stock and be entitled to the dividend amount, you need to know when the ex-date is. The ex-date usually precedes the record date by about two days. On or after this date, the shares of IBR will trade without its dividend.

That means, if you buy IBR even one day before the ex-dividend date, you will still get the dividend of Rs 6. But if you buy on the ex-dividend date, you won’t get the dividend. What happens if you actually buy on the ex-date?

Whenever a company announces a book closure or a record date, the exchange sets up a ‘No Delivery’ period for that security.

During this period, trading is permitted in the security, but these trades are settled only after the no-delivery period is over.

Therefore, although you may have bought shares before the record date, you will not be a shareholder on the records, as the shares would have still not been delivered to your account.

Therefore, the buyer of the shares on or after the ex-date will not be eligible for the benefits. However, if you sell shares on the ex-date, you will still be eligible for dividends.

The last one, the date of payment, is easily the best and most profitable. This is the date the company sends out the dividend to the entitled shareholders.

Taking stock

So, why does the share price fall on the ex-date? Consider, for example IBR, which is currently trading in the market for Rs 180 per share. Perhaps, due to a new wave of veganism and the popularity of health food, IBR has reported record earnings.

Say, the board of directors of IBR decide to share the spoils and declare a dividend of 60 per cent with a record date of Monday, September 17.

The face value of the stock of IBR is Rs 10. This means the dividend works out to Rs 6 per share. Investors buy into the share to be entitled to the dividend. This could explain the spike in share price when a stock is cum-dividend (trading with dividend).

However, the stock market sees the actual payout of dividends as the company giving up a part of its profits, thereby reducing its cash reserves.

Also, since buyers on or after the ex-date are not entitled to the dividend, share prices drop by the amount equivalent to the dividend per share as a way of compensation.

This is why IBR’s share price will probably fall by Rs 6 to Rs 174, when the stock goes ex-dividend (without dividend).

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