Cash is the lifeblood of a company, and so understanding how a company's cash flow works is essential in understanding its financials. Many companies use part of the cash they generate to pay dividends to their shareholders, and those dividends show up on the cash flow statement as an outflow. Let's look more closely at the formula you'll see reflected on the cash flow statement with a company that pays dividends.
Why you'll find some dividends only on the cash flow statement
One distinction between dividends and other types of outbound cash flow is that you typically see dividends paid on common stock only on the cash flow statement. Many other types of payments, including interest on bonds and bank loans, show up as expenses on the income statement, as well. The difference is that, while bondholders only have a creditor's interest in a company, common shareholders are technically the company's owners, and so accounting rules treat the money paid to investors through dividends differently.
Some companies issue preferred stock, and when that stock pays dividends, the company has to subtract them from their net income to calculate the income attributable to common shareholders. That calculation does appear on the income statement, but you'll find both preferred and common stock dividends on the cash flow statement, as well.
Figuring the formula for dividends and cash flow
To determine how much outward cash flow results from a dividend payment, you have to know the amount of the dividend and the number of shares outstanding. For instance, if a company has 1 million shares outstanding and pays a $1-per-share quarterly dividend, then the amount of cash paid is 1 million x $1, or $1 million each quarter. That $1 million will show up on quarterly financials and add up to $4 million over the course of a full year.
When there are both preferred and common shareholders, you'll typically see separate calculations on the cash flow statement for both types of dividends. The number of shares of each type of stock can be different, as can the per-share dividend payment. Adding up the cash flow from preferred and common dividends tells you how much of the company's capital goes toward shareholders payments.
Knowing how much cash a company uses toward paying dividends is important, especially in tough economic conditions during which cash becomes scarce. A look at the cash flow statement should tell you quickly what you need to know, and give you guidance about whether that use of capital is sustainable in the long run.
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