Dividend Payout Ratio:

Dividend payout ratio is calculated to find the extent to which earnings per share have been used for paying dividend and to know what portion of earnings has been retained in the business. It is an important ratio because ploughing back of profits enables a company to grow and pay more dividends in future.

Formula of Dividend Payout Ratio:

Following formula is used for the calculation of dividend payout ratio

Dividend Payout Ratio = Dividend per Equity Share / Earnings per Share

A complementary of this ratio is retained earnings ratio. Retained earning ratio is calculated by using the following formula:

Retained Earning Ratio = Retained Earning Per Equity Share / Earning Per Equity Share

Example:

Calculate dividend payout ratio and retained earnings from the following data:

Net Profit Provision for taxation Preference dividend

10,000 5,000 2,000

No. of equity shares Dividend per equity share

3,000 $0.40

Payout Ratio = ($0.40 / $1) × 100

= 40%

Retained Earnings Ratio = ($0.60 /$1) × 100

= 60%

Significance of the Ratio:

The payout ratio and the retained earning ratio are the indicators of the amount of earnings that have been ploughed back in the business. The lower the payout ratio, the higher will be the amount of earnings ploughed back in the business and vice versa. A lower payout ratio or higher retained earnings ratio means a stronger financial position of the company.