Payout Ratio

The payout ratio shows how much of its profit a company hands back to shareholders as dividends. It is calculated as dividends divided by net income, or dividends per share divided by earnings per share.

Example: a company earns $4 per share and pays $1.60 per share in dividends. Its payout ratio is 40%. The remaining 60% is retained for investment, debt repayment or buybacks.

The payout ratio helps investors judge how sustainable a dividend is. A moderate ratio leaves a cushion if profits dip. A ratio near or above 100% means the company is paying out everything it earns, or more, which may not be sustainable unless earnings recover. A negative earnings figure makes the ratio meaningless.

What counts as normal varies by industry. Mature, stable businesses such as utilities often have high payout ratios, while fast-growing companies tend to pay little or nothing. Real estate investment trusts are required to distribute most of their taxable income and are often analyzed with cash-flow measures instead.

Some analysts prefer a cash-flow payout ratio, using free cash flow instead of net income, because accounting earnings can include non-cash items.