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Is Abercrombie & Fitch Co. (NYSE:ANF) A Strong Dividend Stock?

Simply Wall St

Today we'll take a closer look at Abercrombie & Fitch Co. (NYSE:ANF) from a dividend investor's perspective. Owning a strong business and reinvesting the dividends is widely seen as an attractive way of growing your wealth. If you are hoping to live on the income from dividends, it's important to be a lot more stringent with your investments than the average punter.

A high yield and a long history of paying dividends is an appealing combination for Abercrombie & Fitch. It would not be a surprise to discover that many investors buy it for the dividends. The company also bought back stock during the year, equivalent to approximately 5.5% of the company's market capitalisation at the time. Before you buy any stock for its dividend however, you should always remember Warren Buffett's two rules: 1) Don't lose money, and 2) Remember rule #1. We'll run through some checks below to help with this.

Explore this interactive chart for our latest analysis on Abercrombie & Fitch!

NYSE:ANF Historical Dividend Yield, January 17th 2020

Payout ratios

Companies (usually) pay dividends out of their earnings. If a company is paying more than it earns, the dividend might have to be cut. As a result, we should always investigate whether a company can afford its dividend, measured as a percentage of a company's net income after tax. Abercrombie & Fitch paid out 98% of its profit as dividends, over the trailing twelve month period. With a payout ratio this high, we'd say its dividend is not well covered by earnings. This may be fine if earnings are growing, but it might not take much of a downturn for the dividend to come under pressure.

In addition to comparing dividends against profits, we should inspect whether the company generated enough cash to pay its dividend. Abercrombie & Fitch paid out 154% of its free cash last year. Cash flows can be lumpy, but this dividend was not well covered by cash flow. Paying out such a high percentage of cash flow suggests that the dividend was funded from either cash at bank or by borrowing, neither of which is desirable over the long term. Cash is slightly more important than profit from a dividend perspective, but given Abercrombie & Fitch's payments were not well covered by either earnings or cash flow, we are concerned about the sustainability of this dividend.

While the above analysis focuses on dividends relative to a company's earnings, we do note Abercrombie & Fitch's strong net cash position, which will let it pay larger dividends for a time, should it choose.

Consider getting our latest analysis on Abercrombie & Fitch's financial position here.

Dividend Volatility

From the perspective of an income investor who wants to earn dividends for many years, there is not much point buying a stock if its dividend is regularly cut or is not reliable. Abercrombie & Fitch has been paying dividends for a long time, but for the purpose of this analysis, we only examine the past 10 years of payments. The dividend has been stable over the past 10 years, which is great. We think this could suggest some resilience to the business and its dividends. During the past ten-year period, the first annual payment was US$0.70 in 2010, compared to US$0.80 last year. Dividends per share have grown at approximately 1.3% per year over this time.

While the consistency in the dividend payments is impressive, we think the relatively slow rate of growth is unappealing.

Dividend Growth Potential

While dividend payments have been relatively reliable, it would also be nice if earnings per share (EPS) were growing, as this is essential to maintaining the dividend's purchasing power over the long term. Earnings have grown at around 2.9% a year for the past five years, which is better than seeing them shrink! This level of earnings growth is low, and the company is paying out 98% of its profit. Limited recent earnings growth and a high payout ratio makes it hard for us to envision strong future dividend growth, unless the company should have substantial pricing power or some form of competitive advantage.

Conclusion

When we look at a dividend stock, we need to form a judgement on whether the dividend will grow, if the company is able to maintain it in a wide range of economic circumstances, and if the dividend payout is sustainable. It's a concern to see that the company paid out such a high percentage of its earnings and cashflow as dividends. Earnings per share growth has been slow, but we respect a company that maintains a relatively stable dividend. Overall, Abercrombie & Fitch falls short in several key areas here. Unless the investor has strong grounds for an alternative conclusion, we find it hard to get interested in a dividend stock with these characteristics.

Companies that are growing earnings tend to be the best dividend stocks over the long term. See what the 14 analysts we track are forecasting for Abercrombie & Fitch for free with public analyst estimates for the company.

Looking for more high-yielding dividend ideas? Try our curated list of dividend stocks with a yield above 3%.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Thank you for reading.