What is the Dividend Growth Rate?
The “Dividend Growth Rate” has many definitions, each of which will be useful for certain purposes. A very common growth rate of dividends is reported in the financial press every time a company increases its periodic payouts. This is the yearly growth rate for the most recent year over which the dividend will be paid. This is a little tricky, since the year is not the company fiscal year, nor is it the calendar year. For example, Clorox was paying $.60 per quarter beginning in mid-2011, and prior to that was paying $.55 for the first two quarters of 2011. Clorox raised this quarterly amount to $.64 per quarter in mid-2012. Clorox announced that it had raised its dividend by 6.67%. The actual cash payments to investors were $2.30 per share in 2011, and $2.48 per share in 2012, because of the mid-year changes in the payment amounts. The percentage increase to the investor year-over-year was a change from $2.30 to $2.48, an increase of 7.83%.
Which Definition to Use?
The above example for Clorox uses each year’s actual money paid in dividends as a measure of a dividend growth rate. However, different financial sites and screens could use other definitions which do not depend on the day on which the dividend is paid, but the day on which the dividend is announced or declared by the company; or a definition could use the day on which investors are no longer entitled to last quarter’s dividend, referred to as the “x-date”. When a dividend rate changes, the amounts paid between these (yearly) declaration dates or yearly x-dates might be the basis of the measure of dividend growth.
This website uses the basic definition of calendar year-over-year payment amounts, since the focus is on the actual money given out in dividends.
Compound Annual Growth Rates (CAGRs)
When looking at dividend growth rates over several years, it is appropriate and useful to do so with compounding taken into account, as opposed to a simple average growth rate. When reviewing growth rate data, be sure to distinguish between growth data that uses compounding and growth data that may not do so. The only way to be sure about this is to look at the actual yearly figures (which can vary, as discussed above), and then calculate a sample growth rate using the formula for CAGRs. This formula is somewhat difficult to perform manually, so it is best to use a website to compute CAGRs for you. A good example of such a calculator is http://www.investopedia.com/calculator/CAGR.aspx#axzz1vMzrLLth. Remember that when this formula is used to calculate growth over a N year period, the value to use in the calculator for number of periods is N-1.
Problems With CAGRs
Compound annual growth rates will reflect the compounded growth from the beginning of a time frame to the end. Any variation in the growth rate during this period will not be reflected in this measure. The CAGR is the rate at which a dividend would have grown if it had grown at a steady rate. Since hardly any investment grows at exactly the same rate each year, the CAGR is sometimes characterized as an “imaginary” number. The real point is that any variation in growth rate over many years is definitely not reflected by the CAGR,
Dividend Growth Investing uses rolling five-year CAGRs over long time frames (preferably 20 years) to detect both the average CAGR and any variation in dividend growth rates within this period. The theoretical reasons why five-year rolling periods are used, and how various statistics on these CAGRs are then interpreted is explained more fully in monthly commentaries or in future tutorials.
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