Regular readers will know that we love our dividends at Simply Wall St, which is why it's exciting to see Class Limited (ASX:CL1) is about to trade ex-dividend in the next 4 days. If you purchase the stock on or after the 27th of February, you won't be eligible to receive this dividend, when it is paid on the 27th of March.
Class's next dividend payment will be AU$0.025 per share, on the back of last year when the company paid a total of AU$0.05 to shareholders. Based on the last year's worth of payments, Class stock has a trailing yield of around 2.7% on the current share price of A$1.83. Dividends are an important source of income to many shareholders, but the health of the business is crucial to maintaining those dividends. So we need to investigate whether Class can afford its dividend, and if the dividend could grow.
Dividends are typically paid from company earnings. If a company pays more in dividends than it earned in profit, then the dividend could be unsustainable. It paid out 76% 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. It could become a concern if earnings started to decline. 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. Dividends consumed 74% of the company's free cash flow last year, which is within a normal range for most dividend-paying organisations.
It's positive to see that Class'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.
Have Earnings And Dividends Been Growing?
Stocks in companies that generate sustainable earnings growth often make the best dividend prospects, as it is easier to lift the dividend when earnings are rising. If business enters a downturn and the dividend is cut, the company could see its value fall precipitously. For this reason, we're glad to see Class's earnings per share have risen 12% per annum over the last five years. The company paid out most of its earnings as dividends over the last year, even though business is booming and earnings per share are growing rapidly. Higher earnings generally bode well for growing dividends, although with seemingly strong growth prospects we'd wonder why management are not reinvesting more in the business.
The main way most investors will assess a company's dividend prospects is by checking the historical rate of dividend growth. In the past four years, Class has increased its dividend at approximately 5.7% a year on average. It's good to see both earnings and the dividend have improved - although the former has been rising much quicker than the latter, possibly due to the company reinvesting more of its profits in growth.
The Bottom Line
From a dividend perspective, should investors buy or avoid Class? Higher earnings per share generally lead to higher dividends from dividend-paying stocks over the long run. However, we'd also note that Class is paying out more than half of its earnings and cash flow as profits, which could limit the dividend growth if earnings growth slows. While it does have some good things going for it, we're a bit ambivalent and it would take more to convince us of Class's dividend merits.
Wondering what the future holds for Class? See what the three analysts we track 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.
If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. 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.
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. Thank you for reading.