Payout Ratio
Definition
The payout ratio is the proportion of a company's earnings that is paid out to shareholders as dividends, expressed as a percentage of net income.
Explanation
The payout ratio helps investors assess dividend sustainability. A low payout ratio (20-40%) indicates room for dividend growth and reinvestment, while a very high ratio (over 80%) may signal that the dividend is at risk if earnings decline. A ratio over 100% means the company is paying more in dividends than it earns.
Payout ratios vary by industry. Mature, stable companies in utilities and consumer staples often have higher payout ratios, while growth companies typically reinvest earnings and pay little or no dividends.
Example
A company earns $5 per share and pays $2 per share in annual dividends, resulting in a payout ratio of 40%.