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2 Ultra-High-Yield Dividends That May Be on Their Deathbeds

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Sean Williams, The Motley Fool
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The stock market offers few certainties, but the outperformance of high-quality dividend stocks over the long run, relative to their non-dividend-paying counterparts, tends to be about as close to a certainty as you'll get.

The strong long-term performance of dividend stocks probably shouldn't come as a surprise given the fact that most companies paying a dividend are profitable, have a reasonably clear outlook, and have time-tested business models. In other words, dividend stocks act like beacons of profitability to lure income-seeking investors. Best of all, these payouts can be reinvested into more shares of dividend-paying stock through a dividend reinvestment plan, or DRIP, thereby compounding your wealth over time.

A hand reaching for a neat stack of hundred-dollar bills in a mouse trap.
A hand reaching for a neat stack of hundred-dollar bills in a mouse trap.

Image source: Getty Images.

But dividend stocks have a dark side as well: The higher the yield, more often than not, the greater the risk. Since yield is a function of payout and share price, a rapidly declining share price that's caused by a failing business model can give the false impression to income investors that they're going to be rolling in the dough.

There are some ultra-high-yield dividend stocks with yields in excess of 10% that should rightly be attractive to income investors. But there are plenty that look downright dangerous. Here are two ultra-high-yield dividend stocks whose payouts look to be on life support and may soon be completely eliminated.

BP Prudhoe Bay Royalty Trust: 20.5% dividend yield

Keeping in mind that the market holds nothing to be certain, there's a very good possibility that BP Prudhoe Bay Royalty Trust (NYSE: BPT) is going to disappoint income investors sooner rather than later -- and it has nothing to do with the price of crude.

As the company's name implies, BP Prudhoe Bay is a trust that owns a royalty interest in BP's oil production in Prudhoe Bay, Alaska. If the price of West Texas Intermediate (WTI) oil rises, then the trust makes more money, whereas it generates less royalty income if the price of WTI falls. Once the relatively minimal operating expenses of the trust are accounted for, the remaining earnings are passed along to shareholders in the form of a dividend. The catch is that BP Prudhoe Bay only receives a royalty on up to the first 90,000 barrels of oil per day, with anything in excess of this amount not counting toward its royalty.

Even though BP Prudhoe Bay is limited by the number of barrels on which it can generate interest, the trust has had little issue generating big-time dividends for its investors, with 2008 being its best year (it paid out $11.71 per share). Even now, the trust sports a yield of better than 20%, which presumably would rise if the price of WTI rose significantly.

Barrels of crude oil lined up in a row.
Barrels of crude oil lined up in a row.

Image source: Getty Images.

But here's the problem: If production at BP's Prudhoe Bay oil field drops below feasible levels to operate the trust, it'll be liquidated and the dividends will cease entirely. Essentially, the trust would no longer have any value. That would mean any investors who are buying into BP Prudhoe Bay Royalty Trust today would need the value of the dividends received to outpace the company's current share price in order to ensure a complete payback and investment gains, not including the tax implications of the dividends they'll receive. But the chance of the trust surviving long enough for that to happen appears slim.

According to BP Prudhoe's 2018 annual report, production is no longer expected to be feasible after 2022. Keeping in mind that this figure has changed a number of times over the 30 years the trust has been in operation, this only leaves perhaps 14 more quarterly payouts before the trust liquidates. While we can't know with any certainty the precise end date of the BP Prudhoe Bay Royalty Trust, what is fairly certain is that we're a lot closer to the end than the beginning. That makes this ultra-high-yield dividend a strong candidate to be eliminated in the not-so-distant future.

Chico's FAS: 10.4% dividend yield

Another ultra-high-yield dividend that looks to be on its deathbed is women's apparel and accessories retailer Chico's FAS (NYSE: CHS), which operates the Chico's, White House Black Market, and Soma brands.

As a longtime follower of Chico's, I can attest that it was the retailer pretty much every mall-based chain hoped it could emulate in the early to mid-2000s. In a decade's time, Chico's would see its share price rally from about $0.25 in early 1996 to a near-peak of $47 in February 2006. Chico's always had a knack for putting the right merchandise in its stores, and it had little trouble connecting with its customer.

But things have changed drastically for Chico's FAS -- and not for the better. The mall-based retail landscape has been directly challenged by online retailers like Amazon.com that have far lower overhead expenses, deeper pockets, and can create a more convenient shopping experience for Chico's target demographic, more mature women. This has led to persistently declining annual sales for Chico's, which last delivered a year-over-year increase in revenue in 2015. A continuation of its sales slide is expected for both 2020 and 2021, to reach annual figures last seen in 2011.

A smiling mature woman holding multiple shopping bags while looking at apparel.
A smiling mature woman holding multiple shopping bags while looking at apparel.

Image source: Getty Images.

For what it's worth, the company has implemented a number of initiatives designed to improve sales and reduce spending. As with pretty much every retailer at the moment, Chico's wants to focus its investments on its digital platform, while at the same time reducing the amount of product in its stores. But this hasn't exactly changed the tide. In fact, it could be argued that things are deteriorating for Chico's.

Last month, Chico's FAS received a takeover bid from private equity company Sycamore Partners totaling $3 a share (Chico's has subsequently rejected it). What's so intriguing about this offer is that it follows a previous bid by Sycamore at $3.50 per share, which was unanimously rejected by Chico's board of directors. Usually, rejected takeover offers are upped to coerce an agreement, not reduced. But Sycamore believes it has the upper hand given that Chico's fundamentals continue to weaken.

What's particularly worrisome is that Chico's is now only marginally profitable, and its cash and cash equivalents have shrunk from $193.5 million as of May 5, 2018, to $105.1 million as of May 4, 2019. Likewise, total current assets for the latest reported period only exceeded total current liabilities by $38 million, compared to a $263 million gap in the year-ago period.

And yet, Chico's recently upped its payout, which makes little sense. This niche retailer's weakening balance sheet suggests its dividend is running on borrowed time.

More From The Motley Fool

John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool's board of directors. Sean Williams has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Amazon. The Motley Fool has a disclosure policy.