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Dividend Reinvestment Plans (DRIPs)IntroductionInvesting in stocks is not hard. While most investors elect to purchase shares directly from a stockbroker, an interesting alternative exists - Dividend Reinvestment Plans. In this introductory section we will explain:
What Is a Dividend Reinvestment Plan?Some corporations offer their shareholders the option of reinvesting their dividends in additional shares of stock. This allows shareholders to purchase additional shares of stock directly from the company without having to use a brokerage service. This is known as a dividend reinvestment plan (DRIP). However, to be eligible for a dividend reinvestment plan, most corporations require that you purchase your original shares from a brokerage house. Once you own some of the company's stock, you then may be eligible to participate in a dividend reinvestment plan. Nonetheless, many brokerage services can be very helpful in pointing out to investors (who ask) what companies offer dividend reinvestment plans. The obvious advantage to dividend reinvestment plans is the potential to save on brokerage commissions through direct purchases. Nonetheless, there are other attractive features of these plans that we will explore. But before we look at all the potential benefits, let's begin by looking at the two dividend-reinvestment plans available to investors.
Types of Dividend Reinvestment PlansThere are two types of dividend reinvestment plans:
The first type of DRIP has an outside trustee repurchase shares on the secondary market. These shares are purchased to re-issue them to shareholders in the dividend reinvestment plan. The shareholder will get the shares at market price. However, the corporation will often offer to cover the commission and fees to encourage shareholders to participate in the plan. In the second type of DRIP the shareholders receive newly issued shares directly from the company. This implies that the company has the control on whether to provide an additional discount or not. Some corporations will go as far as offering their stock at three to five percent below the market price. Companies offer these discounts because they save the costs of going through an investment banker to issue the new shares. The goal is usually to have shareholders continuing to invest. Read below to see how everyone benefits from these DRIPs.
Benefits of Dividend Reinvestment PlansDividend reinvestment plans benefit both the investors and the corporations. For investors: An investor will usually save brokerage fees or will be offered other discounts that a corporation will provide in order to keep the investor. Furthermore, some investors may also enjoy the benefits of the option to purchase more shares in a company they already know and trust, rather than searching through the thousands of options available to them in the free market. For the corporation: By offering the DRIP a corporation raises capital inexpensively. DRIPs can also help provide stability for a company's stock price by offering perpetual demand for the company's shares as new dividends are declared. Furthermore, the corporation may decrease or increase the availability and the benefits of their dividend reinvestment plans based on how much capital they need to raise. ConclusionToday, about a thousand corporations (mainly the large ones) offer DRIPs. Only about 25% of the shareholders actually choose to take advantage of them. Yet, corporations will continue to offer discounts because DRIPs have proven themselves to be a good way to raise capital. Furthermore, as more investors learn about the benefits of DRIPs, one might expect that more investors will be drawn to the advantages offered by these programs.
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