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Dividend cover

Shows how many times the proposed dividend could have been met from the profits available for distribution to shareholders. It is calculated by dividing the profit accruing to ordinary shareholders (profit after tax, interest and preference dividends) into the dividends figure and is expressed as number of times. When reviewing this ratio it is important to remember that the potential reward shareholders get for their investment in a company consists of dividends as well as any capital gain they get from selling their shares. Therefore, shareholders may accept lower dividends in a particular year (or for several years running), if it is believed that investment is likely to increase the value of the business in the future, and thus the capital gain on selling shares, or lead to a significant increase in profits and future dividends as a result. Regular, high dividends are, however, important for shareholders who need an annual income to boost their earnings, eg pensioners. Such groups would want a high payout each year. This leads to pressure for short-term profit, which could sacrifice longer-term gain. The reason for this is fairly obvious – the higher the dividend, the less profit retained and reinvested in the business. Thus growth is restricted, along with the potential for higher profits as a result of growth, leading to higher dividends and capital gain on shares sold.

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