Is Dividend a Source of Passive Income?

If you are a shareholder, can you treat the dividend received as a source of passive income?

When it comes to equity investment, most investors may associate equity investment as a financial tool to earn capital gain instead of passive income. It might be more exciting to invest primarily for capital gain as opposed to dividend. That said, there is nothing wrong to invest primarily for capital gain as price appreciation is still an important component of our investment returns on top of dividend income.

Instead of investing primarily for capital gain, why not invest primarily for dividend and wait for the price appreciation at the same time? 

You could treat the dividend received as the primary income and capital gain as a bonus. Bear in mind that capital gain is a one-off gain if you dispose off the entire shares while dividend that is safe and sustainable could provide continuous stream of cashflow to you as long as you remain invested in the company.

However, dividend paid to you can only be deemed as passive income if the following criteria are met:

1) The company MUST be CAPABLE to continuously share part of its profit with you. The company needs to be profitable and enjoy rising profitability in the long term. Without profit, there is nothing left to be shared with shareholders. Worst still, the share price might decrease if a company suffers declining profitability or losses without any recovery in sight.

2) The company MUST be WILLING to share part or most of its profit with you. You could assess the company's willingness to pay dividend based on its historical track record of dividend payment. If company A makes RM100 mil profit and declare RM50 mil dividend, the dividend payout ratio works out to be 50% (RM50 mil / RM100 mil), it means the company is sharing 50% of its profit with shareholders. Most importantly, if the dividend payout ratio has been consistent or on a rising trend, we may expect company A to continue its dividend payment in the future barring any unforeseen circumstances.

3) In short, companies that are matured and do not require huge amount of money for expansion, are likely to pay stable dividends.  The following is an example of a company that has been rewarding its shareholders consistently, namely Carlsberg Malaysia as a reference.

	2012	2013	2014	2015
Net Profit (RM’mil)	193.7	186.6	216.9	220.2
Dividend Declared (RM’mil)	192.6	186.5	217.1	220.1
Dividend Payout Ratio (%)	99.4%	99.9%	100.1%	100%

Source: Carlsberg Malaysia Annual Report 

Carlsberg Malaysia is a dynamic brewer with interesting products such as Carlsberg, Somersby Cider, Jolly Shandy, Asahi, Royal Stout and many more. It has been rewarding its shareholders consistently in the past by paying almost all of its profit because it is capable and willing to do so.

In summary, do remember to assess the companies' CAPABILITY and WILLINGNESS in paying dividends. These 2 factors are likely to determine if the dividends received could be treated as passive income!

Note: The company mentioned above is merely for discussion purposes and it is not a recommendation.