The payout ratio measures a company's ratio of earnings paid out to shareholders as dividends. It is calculated by using a ratio of the dividends a company pays out per share and its earnings per share (EPS). The formula is: (dividends per share) ÷ (earnings per share). You can calculate a payout ratio using Microsoft Excel.
First, if you are given the sum of the dividends over a certain period and the outstanding shares, you can calculate the dividends per share (DPS). Suppose you are invested in a company that paid a total of $5 million last year and it has 5 million shares outstanding. On Microsoft Excel, enter "Dividends per Share" into cell A1. Next, enter "=5000000/5000000" in cell B1; the dividend per share in this company is $1 per share.
Then, you need to calculate the earnings per share (EPS) if it is not given. Enter "Earnings per Share" into cell A2. Suppose the company had a net income of $50 million last year. The formula for earnings per share is: (net income - dividends on preferred stock) ÷ (shares outstanding). Enter "=(50000000 - 5000000)/5000000" into cell B2. The EPS for this company, is $9.
Finally, calculate the payout ration. Enter "Payout Ratio" into cell A3. Next, enter "=B1/B2" into cell B3; the payout ratio is 11.11%. Investors use the ratio to gauge whether dividends are appropriate and sustainable. The payout ratio depends on the sector; for example, startup companies may have a low payout ratio because they are more focused on reinvesting their income to grow the business.