What is a DRIP?



A DRIP or a dividend reinvestment plan or a program, which is a stock investment opportunity a company directly, offers to its shareholders. When a company makes profits every year, it becomes a financial obligation for it to share them with its shareholders. The distribution of profits per share is calculated by dividing the entire profit of the company made over a specific period by the total number of shares it holds. This payment is called dividend.

The dividend is paid in two ways. Either it is paid in cash or in form of company's stock. When it is paid in form of its own stock it obviously implies that it is reinvested in the company.

The companies usually encourage the cash dividend recipients to reinvest them in the company. The reinvestment of dividends not only benefits the company but also the shareholders themselves.

The reinvestment of dividends in form of company's shares creates a kind of domino effect on the investors? profits. It results in compounding of income. The dividend reinvested generates more dividends next year and the process of growth goes on. It takes a form of geometrical progression. What starts as a negligible trickle of income initially becomes a full flooded stream in course of time. The compounding effects of dividend reinvestment have been hailed by some economists as the eighth wonder of the world.

The second benefit of DRIP is that you do not usually have to pay any commission to your broker for his reinvestment services. You, of course, have to check this facility before you choose your broker and open an account with him. You have to provide your broker with a list of the securities or ETFs in the dividend reinvestment plans. Any eligible securities that you purchase thereafter are automatically enrolled into the dividend reinvestment plan for free. However, you can always change the plan to selectively enroll securities in the DRIP and this service may also be offered for free.

The reinvestment of dividend option offers another great advantage to small investors especially when they have recently bought the stock of a company. The dividend received in the initial period of investment is sometimes not sufficient enough to buy the stock of the company. In this case you do not have to wait for your cash to accumulate as to enable you to buy a full share of the stock. You can buy even fractional shares of a stock without paying any brokerage charges.

Dividend reinvestment plans have become a popular investment option for a wide range of investors as they can benefit from dollar cost averaging and make income in form of dividends that the company pays regularly. All you need to do is to instruct your broker to draw a small amount of money from your bank account that you can afford to invest every month. You can just ignore it or forget about it for some time. You will be pleasantly surprised at how much you have accumulated in form of profits over a certain span of time.

Yet another advantage of DRIPs is that the investor not only makes income in form of more and more dividend whenever they are announced, but he also earns in form of appreciation in the price of his stock holding.

There is also a provision (check it with your stockbroker) whereby you can also use your DRIP account to present a small amount of stock dividend as a gift to your minor loved one although you wouldn't like the idea of giving her 10 shares of McDonald.

There are two ways you can reinvest your dividends. There are company sponsored plans that enable you to invest directly in them. The only condition is this plan is that your share should be registered in your name and not in the street name. You can make purchases whenever the dividends are announced, whether quarterly or annually. Generally you do not have to pay any commission.

The second route is to make use of DRIPs through your stock broker. You will, of course, have to pay brokerage charges on your initial purchase of shares. Thereafter your broker will automatically reinvest your dividends at no additional charge. It must also be noted that DRIPs sponsored by the brokerage firms are much simpler than those sponsored by the company. Here you just need to instruct your broker and he does all the rest for you.