Dividend paying stocks like China Huirong Financial Holdings Limited (HKG:1290) 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. Unfortunately, it's common for investors to be enticed in by the seemingly attractive yield, and lose money when the company has to cut its dividend payments.
With a 1.3% yield and a four-year payment history, investors probably think China Huirong Financial Holdings looks like a reliable dividend stock. While the yield may not look too great, the relatively long payment history is interesting. 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.
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. Looking at the data, we can see that 19% of China Huirong Financial Holdings's profits were paid out as dividends in the last 12 months. Given the low payout ratio, it is hard to envision the dividend coming under threat, barring a catastrophe.
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. Looking at the data, we can see that China Huirong Financial Holdings has been paying a dividend for the past four years. 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 four-year period, the first annual payment was CN¥0.044 in 2015, compared to CN¥0.011 last year. Dividend payments have fallen sharply, down 74% over that time.
When a company's per-share dividend falls we question if this reflects poorly on either external business conditions, or the company's capital allocation decisions. Either way, we find it hard to get excited about a company with a declining dividend.
Dividend Growth Potential
With a relatively unstable dividend, and a poor history of shrinking dividends, it's even more important to see if EPS are growing. China Huirong Financial Holdings's earnings per share have shrunk at 19% a year over the past five years. 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 China Huirong Financial Holdings issued a meaningful number of new shares in the past year. Regularly issuing new shares can be detrimental - it's hard to grow dividends per share when new shares are regularly being created.
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. Firstly, we like that China Huirong Financial Holdings has a low and conservative payout ratio. Second, earnings per share have been in decline, and its dividend has been cut at least once in the past. China Huirong Financial Holdings might not be a bad business, but it doesn't show all of the characteristics we look for in a dividend stock.
See if management have their own wealth at stake, by checking insider shareholdings in China Huirong Financial Holdings stock.
Looking for more high-yielding dividend ideas? Try our curated list of dividend stocks with a yield above 3%.
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