What Are Interim Dividends | Interim Dividends Example

What Are Interim Dividends?

When it comes to investing in the stock market, many investors adopt either a growth investing approach or a dividend investing approach. The proponents of dividend investing approach invest in a stable and profitable company that’s been in existence for quite some time in the hopes of receiving a steady source of income through dividends.

If you’re an investor who is looking to adopt this approach, then it is essential for you to be aware of the concept of interim dividend and the difference between interim dividend and final dividend.

What Is a Dividend?

Before we try to understand the meaning of interim dividend, let’s first quickly visit the concept of dividend itself. The equity shareholders of a company are considered to be its owners. Since they essentially own the company, they are automatically entitled to the profits generated by the said company.

And the company periodically distributes the generated profits out to its equity shareholders by way of cash payments called dividends. Although dividends paid out in cash are more frequent, it is not the only means of giving out dividends. Some companies also pay out the dividends to their equity shareholders by way of allotting them shares instead of cash. Dividends that are paid out in stock are known as stock dividends.

When Are Dividends Paid Out to the Shareholders?

Generally, a company conducts a shareholders’ meeting each year in the form of an Annual General Meetings (AGMs). The company presents the audited financial statements of the financial year gone by to its equity shareholders. In addition to that, the company also proposes a rate of dividend that is to be paid out to the shareholders and puts it forth for approval.

Upon receiving the shareholders’ approval for the disbursement of the dividends, the company pays them out to its equity shareholders. This dividend that the company proposes at the AGM after the final financial statements are prepared and audited is what is generally referred to as the final dividend.

What Is the Meaning of Interim Dividend?

Now that you’re aware of the concept of dividend and final dividend, let’s take a look at what interim dividend is.

Interim dividend is the payment of dividends that a company makes before it conducts the Annual General Meeting (AGM). Interim dividends are proposed and distributed to the shareholders of the company before the preparation of the final financial statements.

While final dividends are only paid out once, these interim dividends can be paid more than once and at any point in the financial year. Usually, most companies prefer to declare and distribute these dividends either quarterly or semi-annually along with the release of the quarterly or semi-annual reports of the said companies.

Since interim dividends are usually issued out more frequently to the equity shareholders of a company, their rate of dividends almost always tend to be lower than that of the final dividend. Here’s a point to note. As you’ve already read in the above sections, interim dividends need not always be distributed in cash. Some companies tend to issue stock dividends instead of cash dividends.

Interim Dividend Calculation

Dividends represent a portion of a company’s earnings distributed to shareholders, often calculated on a per-share basis. For interim dividends, the formula used is:

(Company Earnings × Dividend Payout Ratio) ÷ Number of Shares Outstanding

Consider Company ABC Ltd., which allocates 40% of its earnings as dividends. If the company earns ₹10 lakh and has 20 lakh shares outstanding, the dividend per share is calculated as:

(₹10,00,000 × 40%) ÷ 20,00,000 shares = ₹0.20 per share.

This means shareholders receive ₹0.20 as a dividend for each share they own, reflecting the company’s commitment to sharing profits with investors during the interim period.

An Interim Dividend Example

Let us now take a look at an interim dividend example to better understand this concept.

The National Aluminium Company Limited, also known as NALCO, announced a dividend on November 18, 2020 shortly after releasing the second quarter (July – September) and semi-annual financial results of the company. The company’s board of directors in their meeting approved the payout of the dividend with the rate set at 10% of the face value (₹5) of the company’s shares, which came up to ₹ 0.50 per equity share.

Additionally, the company also set a record date of December 02, 2020 with respect to the dividend payment. This essentially means that only the equity shareholders of the company as on December 02, 2020 would be eligible to receive this dividend.

Since the dividend declaration from the National Aluminium Company Limited was made in the middle of the financial year before the preparation of the final financial statements and the Annual General Meeting of the company, the situation clearly qualifies as an interim dividend example.

Why Do Companies Pay Interim Dividends?

Companies pay interim dividends to achieve several financial and strategic objectives that benefit both the shareholders and the organisation. Here are the key reasons:

• Rewarding shareholders early: Interim dividends provide shareholders with a portion of the company’s profits before the end of the fiscal year. This timely distribution enhances investor satisfaction and reflects the company’s commitment to sharing its success.

• Signaling financial strength: Paying interim dividends signals that a company is performing well and has sufficient profitability and cash flow. This instills confidence among investors and boosts the company’s credibility in the market.

• Attracting and retaining investors: Companies often use interim dividends to attract dividend-focused investors. Regular payouts reassure shareholders and encourage them to hold onto the company’s stock for the long term.

• Optimising capital utilisation: Excess cash retained by the company can be put to productive use by paying interim dividends. It ensures optimal capital allocation and prevents resources from remaining idle.

• Improving stock performance: Announcing interim dividends can lead to a positive response in the stock market, often increasing share prices as it signals strong business fundamentals.

How Is Interim Dividend Funded

Interim dividends are typically funded using various financial resources within the company. Here’s a breakdown of how companies finance these payouts:

• Retained earnings: The primary source for funding interim dividends is a company’s retained earnings. These are profits accumulated over the years that have not been distributed to shareholders. Retained earnings reflect the company’s ability to generate consistent profits and are used to reward shareholders through dividends.
• Free Cash Flow: Companies often utilise their free cash flow (FCF) to pay interim dividends. FCF is the cash a company generates after accounting for capital expenditures required to maintain or expand its asset base. Strong free cash flow allows companies to pay dividends without affecting their operational needs or investment plans.
• Reserves and surplus funds: In some cases, companies may tap into their financial reserves or surplus funds to fund interim dividends. These funds are set aside for various corporate needs, and during times of strong performance, companies may use them to reward shareholders.
• Financial health and profitability: The company’s financial health plays a crucial role in determining if it can pay an interim dividend. Companies must ensure they have sufficient funds available, and their overall profitability must be strong enough to cover dividend payments without hindering their operations or future growth.

What Separates the Interim Dividend From the Final Dividend?

The differences between interim dividend and final dividend go deeper than the time of declaration by the company. Here’s a look at some of the other important differences between the two.

Declaration and approval of the dividend

With respect to the final dividend, the board of directors of the company merely propose the idea. The shareholders of the company are the ones who take the issue into consideration, vote on the issue, and finally approve the disbursement of the final dividend.

On the other hand, for interim dividend, the board of directors of the company are the ones who declare, vote on the issue, and approve the disbursement. That said, the shareholders of the company do possess the right to overturn the decision of the board of directors and refuse the payment of the interim dividend.

Funding of the dividend

Since the final dividend is declared after the preparation and audit of the final financial statements, the company generally taps into its current year net profit generated by the company for funding the dividend payout.

In the case of interim dividend, the company usually makes use of its cash reserves like retained earnings, which includes the profits of the previous financial years. Since retained earnings are essentially the undistributed profits of the previous years, they do not include the current financial year’s profits.

Conclusion

Now that you understand the meaning of interim dividends and all the related details, it’s important to note that interim dividends are typically paid alongside a final dividend by the company.

Whether you’re new to dividend investing or looking to deepen your knowledge, recognising the role of interim dividends in a company’s financial strategy can help you make more informed investment decisions.

FAQs