What is dividend payout ratio and how is it different from dividend yield?

Dividend payout ratio and dividend yield are the two important valuations/quantitative data considered while analysing companies for investment purposes. Although they appear the same, they are not. So, let us know in what ways they are different.  

Dividend payout ratio 

It is the ratio of the total amount of dividends paid out to the shareholders with respect to the net profit of the company. In other words, it is the percentage of net income that a company pays to its shareholders by way of dividends. It is calculated as: 

Dividend payout ratio=Dividends/net profit or dividend per share/earnings per share. 

This helps us to determine how much money the company is paying to its shareholders and how much is left to pay off its debts or for expansion purposes. The companies that are still growing usually have lower dividend payout ratios as compared to the companies that are mature and well established. This is because the former uses most of its profits to fund its growth aspirations.  

Therefore, an investor looking for stable income should look out for companies with a high dividend payout ratio. On the other hand, investors seeking to invest in growing companies can opt for the ones with dividend payout ratios. It should be noted that this is a general idea and the high or low dividend payout ratio does not provide the complete picture. There are various other factors that contribute to a high or low dividend payout ratio. 

Dividend yield 

Dividend yield shows how much dividend a company is paying in relation to its share price. It is expressed in the form of percentage and is calculated as: 

Dividend yield= Dividend per share/market price per share 

Here, it should be noted that the dividend is paid on the face value of the share and not on the market price. In this case too, just like we saw above, relatively new companies that are still growing usually have a lower dividend yield as they reinvest most of their profits for expansion purposes. Such companies are preferred by investors who seek high returns. On the other hand, well-established and mature companies have a higher dividend yield. And such companies are preferred by investors who seek stable income.