U.S. Markets open in 5 hrs 56 mins

Is China Shenhua Energy Company Limited's (HKG:1088) 5.9% Dividend Worth Your Time?

Simply Wall St

Today we'll take a closer look at China Shenhua Energy Company Limited (HKG:1088) 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.

In this case, China Shenhua Energy likely looks attractive to investors, given its 5.9% dividend yield and a payment history of over ten years. It would not be a surprise to discover that many investors buy it for the dividends. There are a few simple ways to reduce the risks of buying China Shenhua Energy for its dividend, and we'll go through these below.

Click the interactive chart for our full dividend analysis

SEHK:1088 Historical Dividend Yield, September 9th 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. Comparing dividend payments to a company's net profit after tax is a simple way of reality-checking whether a dividend is sustainable. China Shenhua Energy paid out 40% of its profit as dividends, over the trailing twelve month period. This is a medium payout level that leaves enough capital in the business to fund opportunities that might arise, while also rewarding shareholders. Plus, there is room to increase the payout ratio over time.

We also measure dividends paid against a company's levered free cash flow, to see if enough cash was generated to cover the dividend. China Shenhua Energy's cash payout ratio last year was 23%, which is quite low and suggests that the dividend was thoroughly covered by cash flow. It's encouraging to see that the dividend is covered by both profit and cash flow. This generally suggests the dividend is sustainable, as long as earnings don't drop precipitously.

Consider getting our latest analysis on China Shenhua Energy's financial position here.

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. For the purpose of this article, we only scrutinise the last decade of China Shenhua Energy's dividend payments. The dividend has been cut by more than 20% on at least one occasion historically. During the past ten-year period, the first annual payment was CN¥0.46 in 2009, compared to CN¥0.88 last year. This works out to be a compound annual growth rate (CAGR) of approximately 6.7% a year over that time. China Shenhua Energy's dividend payments have fluctuated, so it hasn't grown 6.7% every year, but the CAGR is a useful rule of thumb for approximating the historical growth.

It's good to see the dividend growing at a decent rate, but the dividend has been cut at least once in the past. China Shenhua Energy might have put its house in order since then, but we remain cautious.

Dividend Growth Potential

With a relatively unstable dividend, it's even more important to evaluate if earnings per share (EPS) are growing - it's not worth taking the risk on a dividend getting cut, unless you might be rewarded with larger dividends in future. While there may be fluctuations in the past , China Shenhua Energy's earnings per share have basically not grown from where they were five years ago. Over the long term, steady earnings per share is a risk as the value of the dividends can be reduced by inflation.

Conclusion

To summarise, shareholders should always check that China Shenhua Energy's dividends are affordable, that its dividend payments are relatively stable, and that it has decent prospects for growing its earnings and dividend. First, we like that the company's dividend payments appear well covered, although the retained capital also needs to be effectively reinvested. Unfortunately, the company has not been able to generate earnings per share growth, and cut its dividend at least once in the past. While we're not hugely bearish on it, overall we think there are potentially better dividend stocks than China Shenhua Energy out there.

Given that earnings are not growing, the dividend does not look nearly so attractive. See if the 17 analysts are forecasting a turnaround in our free collection of analyst estimates here.

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 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.