Understanding Dividend Payout Ratio
Understanding dividend payout ratio: A key to sustainable dividend growth
The dividend payout ratio is one of the most important metrics for dividend investors. It helps determine whether a company’s dividend payments are sustainable or at Risk of being cut.
At HongKongDividendStocks.com, we focus on stocks with payout ratios below 50%—a level that ensures dividends are well-covered by earnings and have room to grow.
What is the Dividend Payout Ratio? And what is a good payout ratio for dividends?
The dividend payout ratio measures the percentage of a company’s earnings that is paid out as dividends. It can be calculated in two ways:
Formula 1:
Dividend Payout Ratio = (Dividends Paid / Net Income) × 100
Formula 2:
Dividend Payout Ratio = (Dividend Per Share (DPS) / Earnings Per Share (EPS)) × 100
A lower payout ratio suggests the company retains enough earnings to reinvest and sustain its dividend over the long term.
The bubble tea stand example
Scenario 1: A healthy payout ratio
- Your bubble tea stand earns $100 in profit.
- You pay yourself $40 as a dividend.
- Your dividend payout ratio is:
(40 / 100) × 100 = 40%
This is sustainable because you are growing your business while paying yourself a reasonable dividend.
Scenario 2: A high payout ratio (Risky)
- Your bubble tea stand earns $100 in profit.
- You pay yourself $90 as a dividend.
- Your dividend payout ratio is:
(90 / 100) × 100 = 90%
This is risky because there’s little room for reinvestment.
Scenario 3: A negative payout ratio (Dangerous)
- Your bubble tea stand loses $50 this month (negative net income).
- You still pay yourself $20 as a dividend.
- Your dividend payout ratio is:
(20 / -50) × 100 = -40%
A negative payout ratio means dividends are being paid despite losses, which is not sustainable.
What payout ratio should you look for?
- Below 50%: Ideal. Leaves room for growth.
- 50%-70%: Acceptable but requires monitoring.
- Above 80%: Risky. Leaves little room for reinvestment.
- Negative: A red flag—dividends are being paid despite losses.
How We Use This at HongKongDividendStocks.com
Our stock screener likes companies with payout ratios below 50% to avoid dividend cuts.
Companies with a low payout ratio and consistent dividend growth are more likely to increase dividends over time—which is exactly what dividend growth investors want.
Final Thoughts
The dividend payout ratio is a simple yet powerful tool to gauge a company’s financial health and dividend sustainability.
Would you invest in a lemonade stand that keeps losing money but still pays dividends? Probably not. The same logic applies to dividend stocks.
If you’re serious about building a sustainable dividend income, focus on companies with strong earnings, low payout ratios, and a history of dividend growth.
Want a shortcut? Our Champion members get access to a curated list of Hong Kong dividend growth stocks—already screened using the dividend payout ratio and other key metrics.
Start building your dividend growth portfolio today.
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