Dividend: what is it?, and other shareholder remuneration alternatives
Dividends are the best-known and most widespread formula used by companies to distribute a part of the profits among their shareholders. However, there are other ways, like the share buybacks.
Sharing business profits with shareholders is a standard procedure in companies whose capital is divided into shares.
In public limited companies, the body in charge of designing and proposing the shareholder remuneration policy and its form of payment, including specific amounts and corresponding calendar, is the Board of Directors. Once the business year is over, the proposed allocation of the year-end profit (that is, its use for shareholder remuneration purposes, remuneration of other capital instruments, provision of reserves, ...), as well as payments on account of the previous year are endorsed by the Annual General Meeting.
Here we take a look at some of the most widely used shareholder remuneration formulas:
Dividend payments are the most widely used method of profit distribution by companies and are normally implemented in the form of cash payouts that take place at regularly scheduled intervals (quarterly, semi-annually or annually). These dividends are known as ordinary dividends – i.e. linked to the company’s ordinary running and the profits resulting thereof - and can be of two types: The interim dividend, i.e. a partial payment to shareholders before full-year earnings are determined, and the final dividend, which is declared once the distribution of profits and the total dividend to be paid to shareholders are approved, and calculated as the difference between said total amount and the interim dividend.
A special dividend is a one-off non-recurring dividend paid, normally linked to an unusual event (such as capital gains on a corporate transaction).
Besides cash payments, companies can opt for the so-called scrip dividend option, i.e. offering shareholders the possibility to choose between receiving their remuneration in cash or in shares. In this case, the company may choose to distribute either shares from its treasury stock or share transfer rights to shareholders, which can in turn be used to subscribe new shares from a capital increase or converted into cash through their sale, either on the market or to the company itself.
The share buyback is another option available to companies to reward their shareholders. In a share buyback, the company repurchases a package of treasury shares, normally on the open market, and retires (eliminates) these shares. This form of remuneration does not imply reimbursing any contributions made by the shareholders. Instead, due to the reduction in the number of shares in circulation, each shareholder’s stake in the company increases in value, which in turn increases the earnings per share (EPS) ratio.