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Should You Buy SFK Construction Holdings Limited (HKG:1447) For Its 6.5% Dividend?

Simply Wall St

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Dividend paying stocks like SFK Construction Holdings Limited (HKG:1447) 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. 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, SFK Construction Holdings pays a decent-sized 6.5% dividend yield, and has been distributing cash to shareholders for the past three years. A 6.5% yield does look good. Could the short payment history hint at future dividend growth? Remember that the recent share price drop will make SFK Construction Holdings's yield look higher, even though recent events might have impacted the company's prospects. There are a few simple ways to reduce the risks of buying SFK Construction Holdings for its dividend, and we'll go through these below.

Explore this interactive chart for our latest analysis on SFK Construction Holdings!

SEHK:1447 Historical Dividend Yield, June 17th 2019

Payout ratios

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 40% of SFK Construction Holdings's profits were paid out as dividends in the last 12 months. This is a middling range that strikes a nice balance between paying dividends to shareholders, and retaining enough earnings to invest in future growth. Plus, there is room to increase the payout ratio over time.

Another important check we do is to see if the free cash flow generated is sufficient to pay the dividend. With a cash payout ratio of 109%, SFK Construction Holdings's dividend payments are poorly covered by cash flow. While SFK Construction Holdings's dividends were covered by the company's reported profits, free cash flow is somewhat more important, so it's not great to see that the company didn't generate enough cash to pay its dividend. Cash is king, as they say, and were SFK Construction Holdings to repeatedly pay dividends that aren't well covered by cashflow, we would consider this a warning sign.

Remember, you can always get a snapshot of SFK Construction Holdings's latest financial position, by checking our visualisation of its financial health.

Dividend Volatility

Before buying a stock for its income, we want to see if the dividends have been stable in the past, and if the company has a track record of maintaining its dividend. It has only been paying dividends for a few short years, and the dividend has already been cut at least once. This is one income stream we're not ready to live on. During the past three-year period, the first annual payment was HK$0.25 in 2016, compared to HK$0.13 last year. The dividend has fallen 48% over that period.

When a company's per-share dividend falls we question if this reflects poorly on either the business or management. Either way, we find it hard to get excited about a company with a declining dividend.

Dividend Growth Potential

Given that dividend payments have been shrinking like a glacier in a warming world, we need to check if there are some bright spots on the horizon. Over the past five years, it looks as though SFK Construction Holdings's EPS have declined at around 4.1% a year. Declining earnings per share over a number of years is not a great sign for the dividend investor. Without some improvement, this does not bode well for the long term value of a company's dividend.

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. Firstly, the company has a conservative payout ratio, although we'd note that its cashflow in the past year was substantially lower than its reported profit. Earnings per share have been falling, and the company has cut its dividend at least once in the past. From a dividend perspective, this is a cause for concern. With this information in mind, we think SFK Construction Holdings may not be an ideal dividend stock.

Are management backing themselves to deliver performance? Check their shareholdings in SFK Construction Holdings in our latest insider ownership analysis.

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