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Is Automotive Properties Real Estate Investment Trust (TSE:APR.UN) A Risky Dividend Stock?

Simply Wall St

Today we'll take a closer look at Automotive Properties Real Estate Investment Trust (TSE:APR.UN) 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. On the other hand, investors have been known to buy a stock because of its yield, and then lose money if the company's dividend doesn't live up to expectations.

In this case, Automotive Properties Real Estate Investment Trust likely looks attractive to dividend investors, given its 7.7% dividend yield and four-year payment history. It sure looks interesting on these metrics - but there's always more to the story . Some simple research can reduce the risk of buying Automotive Properties Real Estate Investment Trust for its dividend - read on to learn more.

Click the interactive chart for our full dividend analysis

TSX:APR.UN Historical Dividend Yield, August 16th 2019

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. Automotive Properties Real Estate Investment Trust paid out 79% of its profit as dividends, over the trailing twelve month period. Paying out a majority of its earnings limits the amount that can be reinvested in the business. This may indicate a commitment to paying a dividend, or a dearth of investment opportunities.

In addition to comparing dividends against profits, we should inspect whether the company generated enough cash to pay its dividend. Automotive Properties Real Estate Investment Trust paid out 57% of its free cash flow last year, which is acceptable, but is starting to limit the amount of earnings that can be reinvested into the business. It's positive to see that Automotive Properties Real Estate Investment Trust's dividend is covered by both profits and cash flow, since this is generally a sign that the dividend is sustainable, and a lower payout ratio usually suggests a greater margin of safety before the dividend gets cut.

Automotive Properties Real Estate Investment Trust is a REIT, which is an investment structure that often has different payout rules compared to other companies. It is not uncommon for REITs to pay out 100% of their earnings each year.

Is Automotive Properties Real Estate Investment Trust's Balance Sheet Risky?

As Automotive Properties Real Estate Investment Trust has a meaningful amount of debt, we need to check its balance sheet to see if the company might have debt risks. 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 measures total debt load relative to company earnings (lower = less debt), while net interest cover measures the ability to pay interest on the debt (higher = greater ability to pay interest costs). Automotive Properties Real Estate Investment Trust has net debt of 10.72 times its EBITDA, which we think carries substantial risk if earnings aren't sustainable.

We calculated its interest cover by measuring its earnings before interest and tax (EBIT), and dividing this by the company's net interest expense. Interest cover of 1.77 times its interest expense is starting to become a concern for Automotive Properties Real Estate Investment Trust, and be aware that lenders may place additional restrictions on the company as well. Low interest cover and high debt can create problems right when the investor least needs them, and we're reluctant to rely on the dividend of companies with these traits.

Consider getting our latest analysis on Automotive Properties Real Estate Investment Trust's financial position here.

Dividend Volatility

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. Automotive Properties Real Estate Investment Trust has been paying a dividend for the past four years. The dividend has not fluctuated much, but with a relatively short payment history, we can't be sure this is sustainable across a full market cycle. Its most recent annual dividend was CA$0.80 per share, effectively flat on its first payment four years ago.

It's good to see at least some dividend growth. Yet with a relatively short dividend paying history, we wouldn't want to depend on this dividend too heavily.

Dividend Growth Potential

The other half of the dividend investing equation is evaluating whether earnings per share (EPS) are growing. Growing EPS can help maintain or increase the purchasing power of the dividend over the long run. Over the past three years, it looks as though Automotive Properties Real Estate Investment Trust's EPS have declined at around 56% a year. A sharp decline in earnings per share is not great from from a dividend perspective, as even conservative payout ratios can come under pressure if earnings fall far enough.

We'd also point out that Automotive Properties Real Estate Investment Trust issued a meaningful number of new shares in the past year. Trying to grow the dividend when issuing new shares reminds us of the ancient Greek tale of Sisyphus - perpetually pushing a boulder uphill. Companies that consistently issue new shares are often suboptimal from a dividend perspective.

Conclusion

Dividend investors should always want to know if a) a company's dividends are affordable, b) if there is a track record of consistent payments, and c) if the dividend is capable of growing. Automotive Properties Real Estate Investment Trust's is paying out more than half its income as dividends, but at least the dividend is covered by both reported earnings and cashflow. Second, the company has not been able to generate earnings growth, and its history of dividend payments too short for us to thoroughly evaluate the dividend's consistency across an economic cycle. In summary, Automotive Properties Real Estate Investment Trust has a number of shortcomings that we'd find it hard to get past. Things could change, but we think there are a number of better ideas out there.

Given that earnings are not growing, the dividend does not look nearly so attractive. See if the 3 analysts are forecasting a turnaround in our free collection of analyst estimates here.

If you are a dividend investor, you might also want to look at our curated list of dividend stocks yielding above 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 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. Thank you for reading.