Dividend Pay-out (D/P) Ratio

Is also known as pay-out ratio. It measures the relationship between the earnings belonging to the ordinary shareholders and the dividend paid to them. In other words, the D/P ratio shows what percentage share of the net profits after taxes and preference dividend is paid out as dividend to the equity-holders. It can be calculated by dividing the dividend paid to the owners by the total profits/earnings available to them. Alternatively, it con he found our by dividing the DPS by the EPS. Thus,

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If the D/P ratio is subtracted from 100, retention ratio is obtained. The ratio indicates what percentage share of the net profits are retained in the business. To illustrate, if the net earnings after taxes and preference dividends are Rs 5,00,900 and the dividend paid to the ordinary shareholders amount to Rs 3,00,000, the D/P = 60 per cent. This implies that 40 per cent of the profits of the firm are retained (retention ratio) and 60 per cent distributed as dividends. Similarly, if the  DPS is Rs 2 and EPS Rs 5, the D/P is 60 per cent. While 60 per cent profits are used to pay dividends, 40 per cent are sloughed back.

The D/P ratio is an important and widely-used ratio. The pay-out ratio can be compared with the trend over the years or an inter-firm and intra-industry comparison would throw light on its adequacy.

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