What it is:
An extra dividend, also known as a special dividend, is a one-time distribution of corporate earnings to company shareholders, typically derived from exceptional performance during a given quarter or period.
How it works (Example):
Extra dividends are usually disbursed in cash and tend to be a larger amount than the company’s usual dividend payment. The extra payment is a way for the company to share its profit "windfall" with shareholders.
Extra dividends are also a way for a company to demonstrate good faith with its shareholders. For all intents and purposes, an extra dividend is a special reward to shareholders designed to engender loyalty.
Extra dividends can also serve goals other than sharing the good fortune with investors. They can be used to display to the rest of the market that the company's long-term footing is sound. The decision to distribute special dividends can also be used to further the strategic interests of management.
For example, a company can issue extra dividends if it decides to change its capital structure, i.e. the percentage of debt vs. the percentage of equity used to finance the company. By decreasing its assets (because dividends are paid out of cash) the firm's debt ratio will increase.
Why it Matters:
Regardless of whether an investor is interested in generating income, dividends play an important role in the overall performance of any portfolio. And when an investor is looking for stock to hold for the long-term, a company's willingness to pay extra dividends often signals that it is focused on stability, long-term prospects and steady management.
Investors specifically interested in companies that show consistency in raising dividends every year should check out a special group of companies called "dividend aristocrats" or "dividend achievers."