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Here's Why We're Wary Of Buying Babcock International Group PLC's (LON:BAB) For Its Upcoming Dividend

Simply Wall St

Babcock International Group PLC (LON:BAB) stock is about to trade ex-dividend in 3 days time. Ex-dividend means that investors that purchase the stock on or after the 5th of December will not receive this dividend, which will be paid on the 17th of January.

Babcock International Group's next dividend payment will be UK£0.072 per share, and in the last 12 months, the company paid a total of UK£0.30 per share. Calculating the last year's worth of payments shows that Babcock International Group has a trailing yield of 5.1% on the current share price of £5.904. Dividends are a major contributor to investment returns for long term holders, but only if the dividend continues to be paid. We need to see whether the dividend is covered by earnings and if it's growing.

View our latest analysis for Babcock International Group

Dividends are typically paid out of company income, so if a company pays out more than it earned, its dividend is usually at a higher risk of being cut. Babcock International Group paid out 56% of its earnings to investors last year, a normal payout level for most businesses. A useful secondary check can be to evaluate whether Babcock International Group generated enough free cash flow to afford its dividend. Over the past year it paid out 178% of its free cash flow as dividends, which is uncomfortably high. We're curious about why the company paid out more cash than it generated last year, since this can be one of the early signs that a dividend may be unsustainable.

Babcock International Group paid out less in dividends than it reported in profits, but unfortunately it didn't generate enough cash to cover the dividend. Cash is king, as they say, and were Babcock International Group to repeatedly pay dividends that aren't well covered by cashflow, we would consider this a warning sign.

Click here to see the company's payout ratio, plus analyst estimates of its future dividends.

LSE:BAB Historical Dividend Yield, December 1st 2019

Have Earnings And Dividends Been Growing?

Businesses with strong growth prospects usually make the best dividend payers, because it's easier to grow dividends when earnings per share are improving. If earnings fall far enough, the company could be forced to cut its dividend. With that in mind, we're encouraged by the steady growth at Babcock International Group, with earnings per share up 3.9% on average over the last five years. Earnings have been growing somewhat, but we're concerned dividend payments consumed most of the company's cash flow over the past year.

Another key way to measure a company's dividend prospects is by measuring its historical rate of dividend growth. In the last ten years, Babcock International Group has lifted its dividend by approximately 7.6% a year on average. It's encouraging to see the company lifting dividends while earnings are growing, suggesting at least some corporate interest in rewarding shareholders.

Final Takeaway

Is Babcock International Group an attractive dividend stock, or better left on the shelf? Babcock International Group is paying out a reasonable percentage of its income and an uncomfortably high 178% of its cash flow as dividends. At least earnings per share have been growing steadily. With the way things are shaping up from a dividend perspective, we'd be inclined to steer clear of Babcock International Group.

Wondering what the future holds for Babcock International Group? See what the ten analysts we track are forecasting, with this visualisation of its historical and future estimated earnings and cash flow

We wouldn't recommend just buying the first dividend stock you see, though. Here's a list of interesting dividend stocks with a greater than 2% yield and an upcoming dividend.

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.

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