3.06 Shares

 

Shares, dividends and yields

A popular method of investment is through buying shares.

• When we buy shares it's like anything else, we are trying to buy them at a bargain price. We do so with the expectation that over time the value of the company (and thus the value of each share) will increase, meaning our small piece of the company is now worth more. 
• Many companies share their annual profits amongst their shareholders by paying them dividends. So each year, if the company we have shares in makes a profit, we get paid a portion of that profit.

 

Dividends

Once someone has purchased shares in a company, they become a shareholder.

If that company makes a profit, they will likely share their profit amongst their shareholders by paying them what is called a dividend.

 

Worked example

Example 1

In 2015, the Commonwealth Bank of Australia (CBA) paid its shareholders a dividend of $\$2.22$$2.22 per share.

Thomas has $5000$5000 CBA shares.

How much did Thomas earn as a dividend payment?

Think: Thomas earns $\$2.22$$2.22 per share, so we multiply the number of shares he owns by the dividend amount.

Do:

Dividend payment	$=$=	$5000\times\$2.22$5000×$2.22
	$=$=	$\$11100$$11100

 

Dividend yield

One way to compare the value of investing in one company versus another company is to calculate and compare the dividend yield.

The dividend yield is expressed as a percentage represents what proportion of the share price is paid as a dividend to shareholders. The greater this percentage, the more lucrative the investment.

 

Worked example

Example 2

In mid January, 2016, the share price for Rio Tinto was $\$38.90$$38.90 and the dividend yield was $9.46%$9.46%.

What is the expected dividend per share?

Think: Multiply the share price by the dividend yield to find the dividend per share. 

Do:

Dividend	$=$=	$\$38.90\times9.46%$$38.90×9.46%
	$=$=	$\$3.68$$3.68

 

Price to earnings ratio

Another way to compare the value of different shares is through the price to earnings ratio.

A P/E ratio reflects the amount investors are willing to pay for a share in a company, relative to its earnings.

A company with a high P/E ratio usually indicates that investors anticipate higher performance and growth in the future and investors are willing to pay more for this company’s shares.

Companies with losses or predicted decline in performance will have low P/E ratios.

 

Worked example

Example 3

Janet bought shares with a dividend yield of $5%$5%. 

The company returns $40%$40% of its profits to the shareholders.

She paid $\$3440$$3440 for $200$200 shares.

(a)  Calculate the market price per share.

Think: Divide the total price paid by the number of shares.

Do:

Market Price	$=$=	$\frac{\$3440}{200}$$3440200​
	$=$=	$\$17.20$$17.20

(b)  Calculate the dividend per share.

Think: Multiply the share price by the dividend yield to find the dividend per share.

Do:

Dividend	$=$=	$0.05\times\$17.20$0.05×$17.20
	$=$=	$\$0.86$$0.86

(c)  Calculate the annual earnings per share.

Think: We know that $40%$40% of the annual earning per share was paid to shareholders as the dividend. 

Do:

$40%$40% of Annual earnings	$=$=	$\$0.86$$0.86
Annual earnings	$=$=	$\frac{\$0.86}{0.4}$$0.860.4​
	$=$=	$\$2.15$$2.15

(d)  Calculate the P/E ratio.

Think: Use the formula together with our answers to part (a) and (c).

Do:

P/E ratio	$=$=	$\frac{\text{Market price per share}}{\text{Annual earnings per share }}$Market price per shareAnnual earnings per share ​
	$=$=	$\frac{\$17.20}{\$2.15}$$17.20$2.15​
	$=$=	$8$8

 

Practice questions

Question 1

Question 2

Question 3