Dividend paying stocks like Hospitality Properties Trust (NASDAQ:HPT) 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. Yet sometimes, investors buy a popular dividend stock because of its yield, and then lose money if the company's dividend doesn't live up to expectations.
A high yield and a long history of paying dividends is an appealing combination for Hospitality Properties Trust. It would not be a surprise to discover that many investors buy it for the dividends. Some simple research can reduce the risk of buying Hospitality Properties Trust for its dividend - read on to learn more.
Companies (usually) pay dividends out of their earnings. If a company is paying more than it earns, the dividend might have to be cut. Comparing dividend payments to a company's net profit after tax is a simple way of reality-checking whether a dividend is sustainable. Looking at the data, we can see that 60% of Hospitality Properties Trust's profits were paid out as dividends in the last 12 months. This is a healthy payout ratio, and while it does limit the amount of earnings that can be reinvested in the business, there is also some room to lift 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. Hospitality Properties Trust paid out 59% of its cash flow as dividends last year, which is within a reasonable range for the average corporation. 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.
REITs like Hospitality Properties Trust often have different rules governing their distributions, so a higher payout ratio on its own is not unusual.
Is Hospitality Properties Trust's Balance Sheet Risky?
As Hospitality Properties Trust has a meaningful amount of debt, we need to check its balance sheet to see if the company might have debt risks. A quick check of its financial situation can be done with two ratios: net debt divided by EBITDA (earnings before interest, tax, depreciation and amortisation), and net interest cover. Net debt to EBITDA is a measure of a company's total debt. Net interest cover measures the ability to meet interest payments. Essentially we check that a) the company does not have too much debt, and b) that it can afford to pay the interest. Hospitality Properties Trust has net debt of 5.22 times its EBITDA, which implies meaningful risk if interest rates rise of earnings decline.
We calculated its interest cover by measuring its earnings before interest and tax (EBIT), and dividing this by the company's net interest expense. With EBIT of 2.01 times its interest expense, Hospitality Properties Trust's interest cover is starting to look a bit thin. High debt and weak interest cover are not a great combo, and we would be cautious of relying on this company's dividend while these metrics persist.
We update our data on Hospitality Properties Trust every 24 hours, so you can always get our latest analysis of its financial health, here.
From the perspective of an income investor who wants to earn dividends for many years, there is not much point buying a stock if its dividend is regularly cut or is not reliable. For the purpose of this article, we only scrutinise the last decade of Hospitality Properties Trust's dividend payments. This dividend has been unstable, which we define as having fallen by at least 20% one or more times over this time. During the past ten-year period, the first annual payment was US$3.08 in 2009, compared to US$2.16 last year. The dividend has shrunk at around 3.5% a year during that period. Hospitality Properties Trust's dividend hasn't shrunk linearly at 3.5% per annum, but the CAGR is a useful estimate of the historical rate of change.
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
With a relatively unstable dividend, it's even more important to see if earnings per share (EPS) are growing. Why take the risk of a dividend getting cut, unless there's a good chance of bigger dividends in future? It's good to see Hospitality Properties Trust has been growing its earnings per share at 22% a year over the past 5 years. With recent, rapid earnings per share growth and a payout ratio of 60%, this business looks like an interesting prospect if earnings are reinvested effectively.
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. First, we think Hospitality Properties Trust is paying out an acceptable percentage of its cashflow and profit. We were also glad to see it growing earnings, but it was concerning to see the dividend has been cut at least once in the past. While we're not hugely bearish on it, overall we think there are potentially better dividend stocks than Hospitality Properties Trust out there.
Companies that are growing earnings tend to be the best dividend stocks over the long term. See what the 3 analysts we track are forecasting for Hospitality Properties Trust for free with public analyst estimates for the company.
Looking for more high-yielding dividend ideas? Try our curated list of dividend stocks with a yield above 3%.
If you spot an error that warrants correction, please contact the editor at email@example.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.