LEVEL 3 GLOSSARY
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Dividend
Not all companies pay dividends, but when they do, you should say "Cha-ching!" Dividends are payments the company makes to their shareholders. They're a way of giving the shareholder a piece of the profit pie.
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Dividend Yield
Put your dividend dinero into a percentage: a $1 annual dividend for a $10 stock has a 10% yield.
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Earnings Per Share
This is the amount of money earned per every one share. If the company made $1 million in profits and has 1 million shares outstanding, the EPS would be $1.
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Liability
Think of this as debt, but then cast the net a little wider. Liability is the obligation to repay its loans, IOUs, payroll, leases, pensions, vacation hours, and taxes a company owes.
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P/E Ratio
Stocks work hard for the money, so hard for it honey—ahem. P/E ratio is "price-to-earnings": it tells you how much you’re paying for the earnings that a share is generating. For those of you who are visual learners, P/E Ratio = price per share / earnings.
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Retained Earnings
If you're expecting a dividend check and end up empty-handed, it could be because the company decided to keep the earnings and put them back into the business. This money, and all other earnings the company keeps, are called retained earnings. The amount of a company's retained earnings can be found in the shareholders' equity section of the balance sheet.
See full glossary
In Level 3, we'll introduce you to the advanced concepts of investing. Just like the first two levels, there will be some concepts and one quiz. Ace the Level 3 quiz and people will be very impressed when they see your Report Card. So dig in, have fun, and ace that quiz! Good luck!
- The role of risk
- Diversification
- Corporate actions
- Dividends
- Reinvesting
- Issuing more shares
- P/E ratio
- LEVEL 3 QUIZ
Reinvesting
What we'll learn:
1) What is reinvesting?
2) How businesses stay fresh
3) Reinvesting vs. dividends
If a big company is any good, its owners aren't sitting around counting their money. (Because that would probably get a little boring, don't you think?) Instead, smart business owners are constantly innovating and trying to come up with better products and ideas.
The money they make finds its way to good ideas — that's the nature of economics.
So let's say you go to a restaurant. The food is excellent, the waiter is smart and friendly, he recommends a good (and cheap) bottle of wine, and everything is great. And then let's say you go back.
The next time there, you expect things to be at least as good as they were the last time — maybe better. You expect new items on the menu, better speakers playing better music in the dining room, a fresh coat of paint in the bathroom, and so on.
And how would the restaurant make itself better? It could spend some of its money on itself. That's what reinvesting is all about — spending money on making the business better. Why would a company do that instead of just pocketing the money? Well, because things depreciate.
The menu gets predictable, the left dining-room speaker blows a tweeter, the paint gets chipped in the bathroom, and so on. And so if you don't spend money on your business, it eventually fails.
So companies learn to spend money and reinvest it back in themselves.
Now, companies don't have to reinvest the money they make back into the business. Some of them will decide to pay a dividend instead.
We've already covered what a dividend is, so you likely know that it's an amount of money the company decides to give straight back to all the shareholders.
That's great! Nothing like a little extra cash in our pockets, right? Well, like every other answer out there, it depends. If a company doesn't think it needs to reinvest in itself, then a dividend might be the way to go.
But if a restaurant's paint is chipped and the appliances are falling apart, then it doesn't make any sense to pay a dividend. The company is losing value and needs some cash to keep it going.
That's another choice that management will have to make. And as a shareholder it's not always easy, because turning money down isn't something anyone likes to do. But hey, sometimes you have to spend money to make money.
Three Facts to Wow Your Friends at a Party
1) The simple concept of reinvesting in your portfolio’s performance is long considered one of the tried-and-true investing strategies.
2) Some companies offer DRIPs (pronounced Drips) which are Dividend Reinvestment Plans. They automatically buy more shares with the dividends a company pays out.
3) Peter Lynch said in his best-seller Beating the Street, "The best stock to buy may be the one you already own."
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