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Dividends

What to do when a dividend gets cut

What do you do should your favourite dividend stock cut its payments?

Earning regular dividend payments are a great source of passive income. I’ve written plenty about choosing some great dividend stocks to invest in, helping secure your financial future. It’s not always positive news for dividend-paying stocks. They can be cut as well as increased. Your favourite company just cut its dividend payout to shareholders. What do you do?

Why did the company cut its dividend?

This is usually fairly obvious since a company will normally cut its dividend if performance isn’t great. Should the company you hold shares with miss its cash flow or revenue targets, this puts further pressure on the board and executives to cut costs elsewhere to aid with budget management.

A company will normally cut its dividend if performance isn’t great.

Just look at what happened with renowned dividend aristocrat British Petroleum (BP). BP halved its shareholder dividend after publishing a $6.7 billion quarterly loss after the COVID-19 pandemic struck global demand for oil. BP blamed the outlook on the price of oil. That’s not all as the company announced 10,000 jobs would be cut.

That’s bad news, which not only cuts the amount paid out to shareholders to $0.05 per share but can also affect the price of shares. In the case of BP, this had a positive effect since the dividend payouts were largely viewed as too high prior to the cut. Something like this can happen to many companies, especially when they’re so easily affected by factors outside their control.

The dividend isn’t always cut due to bad performance, however. Sometimes a company simply wants to raise some funds without offering additional shares or taking on additional investors. Regardless as to why the dividend was cut, it’s usually spun as good news by the company, stating that the move will help the company flourish.

How does this affect your portfolio?

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If you’re still injecting funds into your portfolio — even if the focus is on dividends — you’ll likely not be hit hard by dividend cuts. It’s when you’re reliant on the said payments as your sole source of income that problems can arise. Even with pensions, it’s not a good sign to see your monthly income take a hit.

Losing the dividend of a major holding could have serious implications on your portfolio.

Take the above example of BP. If you had 1,000 shares in the energy company and relied on the $0.10 per share quarterly payment, you’d be making around $100 each quarter, so approximately $400 per annum. By cutting the dividend in half, this BP holding will only pay out $0.05 per share each quarter. This brings the quarterly earnings down to $50 and $200 for the year.

That’s $200 less being added to your bank account each year, which isn’t what anyone wants. It can quickly spiral out of control if you’ve built your portfolio up over decades and have 10,000 shares in BP. This is why it’s always wise to diversify your portfolio, spanning multiple safe companies and markets. By having all your eggs in a single basket, you could be hit harder should times such as this arise.

As aforementioned, the stock price can be affected by a cut in dividends. While pricing here shouldn’t be the main focus on your long-term investments (unless it’s consistently lowering), it’s absolutely worth watching out for in case you plan to sell your holdings later. Yes, the share price could return, but there’s a good chance it won’t.

It’s important to invest in companies you believe in and are comfortable backing. Even if the dividend is cut temporarily, it’s worth reevaluating your position.

What’s the outlook for the future?

Is the company’s books looking somewhat positive? Does it have plenty of cash to pull through the other side? If the dividend was cut to raise funds, what are the plans to use the said money if not to pay shareholders? These are all important questions you need to ask yourself before taking action.

BP’s dividend cut was inevitable thanks to the price of oil, the company’s past mishaps, and the current climate with the move to green energy. Most of BP’s eggs were in the fossil basket, which simply isn’t viable anymore. At least not at the high dividend levels we previously enjoyed. Still, the future is somewhat bright if the leadership continues evolving the company.

What are your options?

Buy more and hope for the best

If the share price falls and the dividend cut isn’t permanent, you could look to purchase more shares. If there’s the hope of the dividend increasing in the future, this may be a good time to get more shares purchased, especially if the company fundamentals are good.

Do nothing and hope for the best

This is the best course of action if you don’t want to double down, say the price hasn’t altered much, and you believe things will only get better.

Cut your ties and go elsewhere

This is a risky choice if the stock price also collapsed since you’ll be making a loss. Still, if you’re all about the dividend income, your money may be better suited elsewhere, especially if the company doesn’t look to be in much of a good state.

By Rich Edmonds

Rich creates content for the top Windows-focused publication, but by night he tries to make his money work for him and rambles far too much here.

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