Today we'll take a closer look at The J. M. Smucker Company (NYSE:SJM) 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. 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.
With J. M. Smucker yielding 3.4% and having paid a dividend for over 10 years, many investors likely find the company quite interesting. We'd guess that plenty of investors have purchased it for the income. There are a few simple ways to reduce the risks of buying J. M. Smucker for its dividend, and we'll go through these below.
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. J. M. Smucker paid out 71% of its profit as dividends, over the trailing twelve month period. 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.
We also measure dividends paid against a company's levered free cash flow, to see if enough cash was generated to cover the dividend. J. M. Smucker's cash payout ratio in the last year was 47%, which suggests dividends were well covered by cash generated by the business. It's positive to see that J. M. Smucker'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.
Is J. M. Smucker's Balance Sheet Risky?
As J. M. Smucker 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 measures total debt load relative to company earnings (lower = less debt), while net interest cover measures the ability to pay interest on the debt (higher = greater ability to pay interest costs). J. M. Smucker is carrying net debt of 3.57 times its EBITDA, which is getting towards the upper limit of our comfort range on a dividend stock that the investor hopes will endure a wide range of economic circumstances.
We calculated its interest cover by measuring its earnings before interest and tax (EBIT), and dividing this by the company's net interest expense. Net interest cover of 5.93 times its interest expense appears reasonable for J. M. Smucker, although we're conscious that even high interest cover doesn't make a company bulletproof.
Remember, you can always get a snapshot of J. M. Smucker's latest financial position, by checking our visualisation of its financial health.
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 J. M. Smucker's dividend payments. During this period the dividend has been stable, which could imply the business could have relatively consistent earnings power. During the past ten-year period, the first annual payment was US$1.28 in 2009, compared to US$3.52 last year. This works out to be a compound annual growth rate (CAGR) of approximately 11% a year over that time.
It's rare to find a company that has grown its dividends rapidly over ten years and not had any notable cuts, but J. M. Smucker has done it, which we really like.
Dividend Growth Potential
While dividend payments have been relatively reliable, it would also be nice if earnings per share (EPS) were growing, as this is essential to maintaining the dividend's purchasing power over the long term. J. M. Smucker's EPS are effectively flat over the past five years. Flat earnings per share are acceptable for a time, but over the long term, the purchasing power of the company's dividends could be eroded by inflation.
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. J. M. Smucker's payout ratios are within a normal range for the average corporation, and we like that its cashflow was stronger than reported profits. It's not great to see earnings per share shrinking. The dividends have been relatively consistent, but we wonder for how much longer this will be true. Ultimately, J. M. Smucker comes up short on our dividend analysis. It's not that we think it is a bad company - just that there are likely more appealing dividend prospects out there on this analysis.
Without at least some growth in earnings per share over time, the dividend will eventually come under pressure either from costs or inflation. See if the 12 analysts are forecasting a turnaround in our free collection of analyst estimates here.
If you are a dividend investor, you might also want to look at our curated list of dividend stocks yielding 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.
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