Grab hold of the dividend or reinvest?

Article from:

Scott Francis

MANY companies offer a dividend reinvestment plan (DRP) where rather than take dividends as income, the investor can choose to take more shares as the dividend.

The dividend is taxable as income whether it is taken as cash or dividend reinvested.

But which option should you chose?

Pros

• Dividend reinvestment schemes don't charge brokerage and are therefore a cheap way of buying additional shares. This could be particularly attractive if you have a small parcel of shares that you wish to grow over time.
• Shares in a DRP are sometimes issued at a small discount to the market price.
• Long-term investors looking to grow value over time might regard capital growth as far more important than dividends. Therefore, dividend reinvesting - where they are actually buying more units every six or 12 months - helps meet that goal.

Cons

• You forfeit your ability to control the timing and price of your investment.
• The amount of the dividend will not exactly equal the number of shares. For example, if you received a $38 dividend and shares in the company were $4 each in the DRP you would receive nine shares, with the $2 carried forward until the next DRP. But if you had Commonwealth Bank shares trading at about $40, you could miss out on getting the benefit from the dividend.
• You don't get to enjoy the returns. This is an argument I would make particularly for younger investors. Because they have been disciplined enough to invest some money, they should enjoy the dividend paid to them. It's a sort of positive feedback loop for the profitable behaviour of investing for the long run.

Direct deposit or cheque?

Another question around dividends is whether to have them paid directly to a cash account or to take the dividend as a cheque.

The arguments for direct crediting of dividends include that:

• It saves the company some money (and as shareholder and part-owner of a company you do benefit from that).
• You get the money into your account more quickly and earning interest for you.
• There seems to be less of a chance that things will go wrong (like the cheque going through the wash).

The verdict

There are people who argue that having to pay a cash dividend is a good financial discipline on a company.

They argue that only a company with a good cash flow can afford to pay strong dividends.

Dividends, it might be said, are a way of keeping the bastards/boards honest.

But don't make the mistake of blithely signing a DRP for every share every time. It may seem convenient but you need to ask yourself: Would I buy these shares?

In a climate where cash is highly prized (and returning 7 per cent risk-free) the argument that it's cheap hardly holds water any longer.