What is a Dividend Requirement?

Dividend requirements are the annual earnings that a company must generate and reserve in order to make dividend payments to investors holding preferred stock. The exact amount of earnings set aside for this purpose will vary, depending on the total revenue generated, the outstanding debts of the company, and the formula associated with calculating the dividends earned per share of stock. Corporations tend to use a couple of different methods to ensure the dividend requirement is met for each calendar or fiscal year.

For smaller companies that offer preferred stock, the process of meeting the dividend requirement usually involves creating a special account to house the funds until it is time to issue dividend payments. The advantage to this approach is that it allows the company to incrementally accrue the total amount required to honor the obligation. In many cases, the company will deposit the funds each month after applicable expenses have been paid and the net profit for the period has been calculated.

When possible, the company is also likely to make sure the account set up for accumulating funds to meet the dividend requirement is an interest-bearing account. This allows the company to continue to earn some income from the monies during the period of accumulation. This process may also help the company to maintain any minimum balance required to earn the highest rate of interest on the account.

A second option is to create a line item for the dividend requirement and house the funds in a pre-existing account. This is an attractive option when the funds can help secure a higher rate of interest from the financial institution where the account is established. To a degree, this approach also simplifies the accounting process, in that there is one less bank account to track during each calendar month.

Any strategy to accumulate the dividend requirement must meet any governmental regulations current in effect in the country where the company has its headquarters. In some cases, maintaining a separate account for the funds is mandated by government regulations. At other times, specific documents may be necessary to file at certain intervals throughout the financial year, but the funds themselves may be maintained in an existing bank account. It is important for any company that is considering the issuance of preferred stock to become familiar with all applicable laws and regulations that are relevant to the process, and make sure there is full compliance.