This show how many times over the profits could have paid the dividend. For example, if the dividend cover is 3, this means that the firm's profit attributable to shareholders was three times the amount of dividend paid out.
Dividend Cover = Pat - Prefereance Dividend
Ordinary Dividend
Dividend cover is a measure of the ability of a company to maintain the level of dividend paid out. The higher the cover, the better the ability to maintain dividends if profits drop. These needs to be looked at in the context of how stable a company's earnings are: a low level of dividend cover might be acceptable in a company with very stable profits, but the same level of cover at company with volatile profits would indicate that dividends are at risk.
Because buyers of high yield shares tend to want a stable income, dividend cover is an important number for income investors.
The inverse of this ratio is the proportion of earnings that belong to ordinary shareholders which are distributed to them. This is known as the dividend payout ratio.
A company who has a dividend cover ratio of 1.0 pays out all earnings in dividends. This means that should earnings fall, the company might be forced to cut annual dividend payments. If the company has financial reserves, it may be able to make the annual payment from these cash reserves in the short term.
Many firms use annual dividend payments as a signal to shareholders and the market of confidence, so in the short term, directors will be reluctant to reduce payments, unless the firm is in trouble.
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