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Should Income Investors Look At Adairs Limited (ASX:ADH) Before Its Ex-Dividend?

Simply Wall St

Adairs Limited (ASX:ADH) stock is about to trade ex-dividend in 4 days time. This means that investors who purchase shares on or after the 10th of September will not receive the dividend, which will be paid on the 25th of September.

Adairs's upcoming dividend is AU$0.08 a share, following on from the last 12 months, when the company distributed a total of AU$0.14 per share to shareholders. Based on the last year's worth of payments, Adairs has a trailing yield of 8.3% on the current stock price of A$1.75. Dividends are a major contributor to investment returns for long term holders, but only if the dividend continues to be paid. As a result, readers should always check whether Adairs has been able to grow its dividends, or if the dividend might be cut.

See our latest analysis for Adairs

If a company pays out more in dividends than it earned, then the dividend might become unsustainable - hardly an ideal situation. It paid out 81% of its earnings as dividends last year, which is not unreasonable, but limits reinvestment in the business and leaves the dividend vulnerable to a business downturn. We'd be worried about the risk of a drop in earnings. Yet cash flow is typically more important than profit for assessing dividend sustainability, so we should always check if the company generated enough cash to afford its dividend. Over the last year, it paid out more than three-quarters (86%) of its free cash flow generated, which is fairly high and may be starting to limit reinvestment in the business.

It's positive to see that Adairs's dividend is covered by both profits and cash flow, since this is generally a sign that the dividend is sustainable, and a lower payout ratio usually suggests a greater margin of safety before the dividend gets cut.

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

ASX:ADH Historical Dividend Yield, September 5th 2019

Have Earnings And Dividends Been Growing?

Companies with consistently growing earnings per share generally make the best dividend stocks, as they usually find it easier to grow dividends per share. Investors love dividends, so if earnings fall and the dividend is reduced, expect a stock to be sold off heavily at the same time. It's encouraging to see Adairs has grown its earnings rapidly, up 32% a year for the past five years. Earnings per share are growing at a rapid rate, yet the company is paying out more than three-quarters of its earnings.

Another key way to measure a company's dividend prospects is by measuring its historical rate of dividend growth. In the last 4 years, Adairs has lifted its dividend by approximately 9.7% 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.

The Bottom Line

Has Adairs got what it takes to maintain its dividend payments? Higher earnings per share generally lead to higher dividends from dividend-paying stocks over the long run. However, we'd also note that Adairs is paying out more than half of its earnings and cash flow as profits, which could limit the dividend growth if earnings growth slows. All things considered, we are not particularly enthused about Adairs from a dividend perspective.

Curious what other investors think of Adairs? See what analysts are forecasting, with this visualisation of its historical and future estimated earnings and cash flow .

If you're in the market for dividend stocks, we recommend checking our list of top dividend stocks with a greater than 2% yield and an upcoming dividend.

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.