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QA: One of the most genius dividends methods for investors and what Warren Buffett has to say about dividends

by , 03 October 2019
QA: One of the most genius dividends methods for investors and what Warren Buffett has to say about dividends
Q. “My question is really basic and so please bear with me… I have been wanting to invest in shares for the last three years and I would very much like to receive dividends as a passive income. Could you please explain what dividends are exactly and why a company would pay dividends to shareholders?”

A. I am always happy to answer these questions, because we all have to start somewhere with our investing careers.

When a publicly listed company makes a profit, the board of directors can decide how to distribute the profits.

Warren Buffett one of the most successful passive income investors explained it like this…a company can do four things with its profits:

1. Re-invest in the company to pursue in organic growth.
2. Acquire other companies.
3. Repurchase shares.
4. Pay dividends.

When a part of the profits are paid out to shareholders, the payment represents a reward for investing in the company which is the dividend.
 
Memory jog: You can think of a dividend as the DIVIDED profits distributed from a listed company to its shareholders…
 
You see dividends are normally a good sign of the company’s financial health.
 
The reasons why directors may decide to pay dividends is to: 
 
Attract more investors to buy the company’s shares which will then drive up the share price.
Encourage existing investors to remain invested in the shares.
Give the impression that a company is growing and is liquid.
 
Compete with other companies that pay dividends.
 
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Q. “Hi Timon, I heard that there is an excellent tool for investors for compounding interest called DRIPs… Could you please explain what these are, why people invest in them and if you could provide an example on how they work?”
 
A. This tool is indeed one of the most genius dividend methods I’ve ever come across for an investor and the company.
 
To explain it simply…
        
DRIPs are also known as “Dividend Reinvestment Plans”.
 
This is an equity investment programme or plan offered by a company to shareholders which allow you to reinvest the dividends you receive into additional shares of the company. 
 
Instead of earning cash as a dividend, you’ll receive more shares from the company instead.
 
Some of the main reasons why people invest in DRIPs are:
 
The dividends you receive are automatically reinvested into new shares.
Enrolling into DRIPs are quick and easy with only a sign-up form involved.
They allow you to accumulate your shareholding without paying additional fees
You can choose how much money you’d like to receive in cash dividends and how many to invest in a DRIP.
 
I know there are a number of companies in South Africa that offer DRIPs including BHP Billiton, Anglo American, Sasol, British American Tobacco and Ansell to name a few…
 
But to make things easy, we’ll use a made up company called TIM to understand how DRIPs work in action.
 
Let’s say you own 100 shares of TIM Ltd, which is valued at R200 per share. The company then declares a dividend payment of R20.00 per share.
 
You as a DRIP participant holding 100 shares will receive 10 shares of TIM.
 
Here is the calculation:
 
Shares received = [(Shares X Dividend per share) ÷ Share price]
                             = [(100 X R20.00) ÷ R200
                             = 10 shares
 
This means with an agreement with a DRIP, at a discounted or free brokerage price, you’ll receive 10 shares to add to your current share holdings of company TIM.
 
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Trade well,
Timon Rossolimos,
Analyst, Red Hot Storm Trader
 
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QA: One of the most genius dividends methods for investors and what Warren Buffett has to say about dividends
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