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Dividend paying stocks like ALBA SE (FRA:ABA) tend to be popular with investors, and for good reason - some research suggests a significant amount of all stock market returns come from reinvested dividends. 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.
With ALBA yielding 4.6% and having paid a dividend for over 10 years, many investors likely find the company quite interesting. We'd guess that plenty of investors have purchased it for the income. Some simple analysis can offer a lot of insights when buying a company for its dividend, and we'll go through this below.
Dividends are usually paid out of company earnings. If a company is paying more than it earns, then the dividend might become unsustainable - hardly an ideal situation. 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. Looking at the data, we can see that 901% of ALBA's profits were paid out as dividends in the last 12 months. Unless there are extenuating circumstances, from the perspective of an investor who hopes to own the company for many years, a payout ratio of above 100% is definitely a concern.
Is ALBA's Balance Sheet Risky?
As ALBA's dividend was not well covered by earnings, we need to check its balance sheet for signs of financial distress. A rough way to check this is with these two simple ratios: a) net debt divided by EBITDA (earnings before interest, tax, depreciation and amortisation), and b) net interest cover. Net debt to EBITDA is a measure of a company's total debt. Net interest cover measures the ability to meet interest payments. Essentially we check that a) the company does not have too much debt, and b) that it can afford to pay the interest. ALBA has net debt of 0.62 times its EBITDA, which we think is not too troublesome.
Net interest cover can be calculated by dividing earnings before interest and tax (EBIT) by the company's net interest expense. With EBIT of 4.93 times its interest expense, ALBA's interest cover is starting to look a bit thin.
Remember, you can always get a snapshot of ALBA's latest financial position, by checking our visualisation of its financial health.
One of the major risks of relying on dividend income, is the potential for a company to struggle financially and cut its dividend. Not only is your income cut, but the value of your investment declines as well - nasty. ALBA has been paying dividends for a long time, but for the purpose of this analysis, we only examine the past 10 years of payments. This dividend has been unstable, which we define as having fallen by at least 20% one or more times over this time. During the past ten-year period, the first annual payment was €0.14 in 2009, compared to €3.25 last year. Dividends per share have grown at approximately 37% per year over this time. The dividends haven't grown at precisely 37% every year, but this is a useful way to average out the historical rate of growth.
It's not great to see that the payment has been cut in the past. We're generally more wary of companies that have cut their dividend before, as they tend to perform worse in an economic downturn.
Dividend Growth Potential
With a relatively unstable dividend, it's even more important to see if earnings per share (EPS) are growing. Why take the risk of a dividend getting cut, unless there's a good chance of bigger dividends in future? It's good to see ALBA has been growing its earnings per share at 57% a year over the past 5 years. The company has been growing its EPS at a very rapid rate, while paying out virtually all of its income as dividends. While EPS could grow fast enough to make the dividend sustainable, in this type of situation, we'd want to pay extra attention to any fragilities in the company's balance sheet.
To summarise, shareholders should always check that ALBA's dividends are affordable, that its dividend payments are relatively stable, and that it has decent prospects for growing its earnings and dividend. We're not keen on the fact that ALBA paid out such a high percentage of its income, although its cashflow is in better shape. Next, earnings growth has been good, but unfortunately the dividend has been cut at least once in the past. In sum, we find it hard to get excited about ALBA from a dividend perspective. It's not that we think it's a bad business; just that there are other companies that perform better on these criteria.
Now, if you want to look closer, it would be worth checking out our free research on ALBA management tenure, salary, and performance.
We have also put together a list of global stocks with a market capitalisation above $1bn and yielding more 3%.
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.
If you spot an error that warrants correction, please contact the editor at email@example.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. Thank you for reading.