In case you weren’t aware, or didn’t even know, a stock’s price will drop by the amount of its dividend payment on the ex-dividend date. Ex-Dividend literally translates to “without dividend”. If you plan on investing in dividend stocks, it’s important to know these dates to receive your dividend payments.
But why does this happen?
Let’s assume a company is worth $100 million dollars. Now what does this mean?
This means that if you wanted to take over and buy out the entire company, its current market price is $100 million dollars.
Apple’s $1 Trillion Dollar Worth
When you hear the news saying things like Apple Is Now Worth $1 Trillion Dollars, this is exactly what it means. If you wanted to buy Apple, you’d have to dish out $1 trillion.
Probably even more because you want to give them motivation to sell the company.
But how do they get this $1 Trillion price tag?
This is a simple formula of:
Share Price x Number of Shares Outstanding
This is also known as the company’s Market Capitalization or Market Cap.
So when Apple stock was trading at $208 on August 2, 2018, their outstanding shares was 4.848 Million, or 4,848,000,000.
Using the formula for Market Cap we get:
$208 x 4,848,000,000 = 1,008,384,000,000
This was Apple’s market cap on that day and hence it’s company’s value.
So Where Does The Ex-Dividend Come In?
So given that we know how to calculate how much a company is worth, now we can start to see why a stock’s price drops on ex-dividend date.
When a company pays out a dividend, they are taking cash out of their account and paying it to shareholders.
In some cases, this is literally reaching into the cash register, and paying out cash.
If a $100 million dollar company pays out $1 million dollars in dividends, that means $1 million cash is leaving the company.
Therefore, the company should no longer be worth $100 million dollars, but rather $99 million dollars.
Since the company’s market cap has dropped by $1 million, the company’s price per share will drop a proportional amount. This is why a company’s share price drops on ex-dividend date.
But Why Ex-Dividend Date?
Funny enough, the Ex-Dividend Date is not set by the company. The company is only responsible for three dates:
- Declaration date: the date they declare that they’re paying out a dividend
- Record date: the date they record all shareholders who will receive a dividend
- Payable date: the date they pay out the dividend
Investors who wish to earn dividends need to be on the books by the record date.
And since stocks take two days to settle, you need to purchase the stock two days before the record date.
Therefore, the Ex-dividend date is a result of the two-day settlement period. Because of this, the company does not set an ex-dividend date. If we had futuristic technology and processes and settlement occurred instantaneously. there would be no ex-dividend date. On the flip side if it took a whole week to settle a stock transaction, then the ex-dividend date would be a week before the record date.
When investing in your next dividend stock and trying to decide between two stocks, it might be profitable to pick the one with an upcoming ex-dividend date rather than one that has already passed.