Dividends & Distributions Explained: The Case for Reinvesting

The choice of cashing out or reinvesting dividends are often overlooked by investors—but should they be? You will find that this decision can have a larger impact on growing your long-term wealth than you think.

Whether you are investing in individual companies (receiving dividends) or funds (receiving distributions), having a plan for these payouts is essential.

In this article, we break down the key points:

• What are dividends?

• How Kernel funds pay dividends

• The impact of reinvesting dividends

For a more in-depth look into dividends and their attractiveness in NZ check out our research here.

Alternatively, you can listen to our podcast episode below.

A dividend is a payment by a company to shareholders, often based on recent profits. The company’s board of directors decide how much the dividend itself will be, balancing payouts with retaining its earnings to be used for stability or future growth.

To be eligible to receive dividends, you will need to own shares in the company, on the company’s share register, before the “Record Date”.

Due to share trading taking a day or two to settle in the share register, there is also a day called “Ex-Date”, being the date before which the trading must occur.

• Buying on Ex-date means you will not receive the dividend as you will not be listed on the register in time.

• Selling on Ex-date means you will still receive the dividend when it is paid on the “Payment Date” some days or weeks later.

Payment Dates are set by the company and vary from country to country to allow reasonable processing time for the share register.

At the time of writing, in New Zealand, the Companies Act 1993 prescribes that the Payment Date is a maximum of 20 business days after the Record Date.

Dividends are announced in cents per share (cps). On the ex-date, you expect the share price to fall by the amount of the dividend as this money is no longer part of the company’s valuation.

For example: XYZ Ltd. declares a dividend of $0.20 cps with an ex-date of 15 July

Theoretical outcome

• Pre-dividend share price (14 July): $5.00

• Expected price on ex-date (15 July): $4.80 ($5.00 - $0.20 dividend)

However, in practice, there are many other impacts of company and economic news and market activity that affect a share price on any given day.

For funds like Kernel’s, dividends from underlying companies are pooled and paid as distributions to investors.

Put simply, individual companies pay dividends and investment funds pay distributions.

Kernel calculates distributions quarterly for most funds on or about the 15th of January, April, July, and October. If you opted out of reinvesting your distributions, you can expect payment to your Kernel wallet on the next business day.

Please note: We have recently moved the fourth distribution of the year from December to January to be in line with our quarterly reporting and so that evenly spaced.

Individual companies pay out dividends at different frequencies and times of the year. Because of this, you might be asking where your money is sitting between distribution payouts and dividend payments to the fund.

• Dividends are reinvested back into the funds – dividends received between quarterly distributions are reinvested within the fund. This follows the index methodology.

• Cash holdings are minimised – Unlike some funds that hold dividends in cash awaiting distribution, we reinvest it back into the share market so it is not sitting idle.

Like individual companies paying dividends, funds pay distributions in cents per unit (cpu). The unit price typically falls by the distribution amount because that cash is no longer part of the fund’s value.

But here is the nuance:

Funds hold many companies, so the distribution reflects the total dividends collected from all holdings.

However, the fall in value is also not exactly the same as the underlying company valuations also affect the unit price on the distribution date.

Tax for both direct share holdings and within a PIE (like Kernel funds) is based on the dividends paid at the record date.

Under the PIE regime, the timing and amount of distributions are not taxable, as it is the underlying dividend income that determines tax.

Tax within the fund will also vary depending on whether it is investing into international assets of New Zealand assets.

For more details on tax, see here.

Example: Ernie invests $10,000 in the S&P/NZX 20 Index* on 31 December 2014 After 10 years (by 2024):

With dividend reinvestment

• Portfolio value of $25,079

• Total growth: 150% (9.47% average annual return)

Without reinvestment (dividends cashed out)

• Portfolio value: $18,150 invested + $4,703 cashed out = $22,853

• Total growth: 128%

The difference in total growth is due to the compounding effect of the dividends being reinvested as they are paid.

1. It is more money in the [investing] bank. By reinvesting your dividends, you are supplementing the amount you may have originally planned to invest. This leads us to the next point…

2. You may get to your goals, faster. Naturally, the more money you invest, the faster you may reach your investing goals. By choosing to reinvest your dividends versus cashing them out, you are aiming to grow your wealth faster, allowing that money to compound and decreasing the time needed to hit your financial goals.

3. It is easy (and free with Kernel!). Dividend reinvestments are out of sight, out of mind. So, you are growing your wealth, faster, without knowing it. When investing with Kernel, we take care of the admin, and at zero cost.

As you can see, reinvesting your dividends instead of cashing them out can have more of a positive impact on building your long-term wealth than you might think.
This is truly where the true power of dividend reinvestment lies.

Note:
*The returns mentioned in this article are index returns not fund returns. The example is for illustrative purposes only. You cannot invest directly in an index, but Kernel’s fund does closely replicate the index performance. The including dividend performance does not include the value of imputation tax credits but also does not include any PIE tax paid or fund management fees.

For the S&P/NZX20 based off imputation credit averages, a 17.5% PIR investor would receive about this performance after tax, a 28% PIR investor slightly lower performance and 10.5% PIR investor a slightly higher return