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Key Things To Consider Before Buying Knorr-Bremse Aktiengesellschaft (ETR:KBX) For Its Dividend

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Is Knorr-Bremse Aktiengesellschaft (ETR:KBX) a good dividend stock? How can we tell? Dividend paying companies with growing earnings can be highly rewarding in the long term. On the other hand, investors have been known to buy a stock because of its yield, and then lose money if the company's dividend doesn't live up to expectations.

Some readers mightn't know much about Knorr-Bremse's 1.8% dividend, as it has only been paying distributions for a year or so. Some simple analysis can offer a lot of insights when buying a company for its dividend, and we'll go through this below.

Click the interactive chart for our full dividend analysis

XTRA:KBX Historical Dividend Yield, February 4th 2020
XTRA:KBX Historical Dividend Yield, February 4th 2020

Payout ratios

Companies (usually) pay dividends out of their earnings. If a company is paying more than it earns, the dividend might have to be cut. So we need to form a view on if a company's dividend is sustainable, relative to its net profit after tax. Knorr-Bremse paid out 50% of its profit as dividends, over the trailing twelve month period. A payout ratio above 50% generally implies a business is reaching maturity, although it is still possible to reinvest in the business or increase the dividend over time.

Another important check we do is to see if the free cash flow generated is sufficient to pay the dividend. Knorr-Bremse paid out 51% of its free cash flow last year, which is acceptable, but is starting to limit the amount of earnings that can be reinvested into the business. 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.

While the above analysis focuses on dividends relative to a company's earnings, we do note Knorr-Bremse's strong net cash position, which will let it pay larger dividends for a time, should it choose.

Remember, you can always get a snapshot of Knorr-Bremse's latest financial position, by checking our visualisation of its financial health.

Dividend Volatility

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. This company has been paying a dividend for less than 2 years, which we think is too soon to consider it a reliable dividend stock. Its most recent annual dividend was €1.75 per share.

Modest dividend growth is good to see, especially with the payments being relatively stable. However, the payment history is relatively short and we wouldn't want to rely on this dividend too much.

Dividend Growth Potential

Examining whether the dividend is affordable and stable is important. However, it's also important to assess if earnings per share (EPS) are growing. Growing EPS can help maintain or increase the purchasing power of the dividend over the long run. It's good to see Knorr-Bremse has been growing its earnings per share at 12% a year over the past five years. Earnings per share have been growing rapidly, but given that it is paying out more than half of its earnings as dividends, we wonder how Knorr-Bremse will keep funding its growth projects in the future.

Conclusion

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. Knorr-Bremse's is paying out more than half its income as dividends, but at least the dividend is covered by both reported earnings and cashflow. We were also glad to see it growing earnings, although its dividend history is not as long as we'd like. While we're not hugely bearish on it, overall we think there are potentially better dividend stocks than Knorr-Bremse out there.

Companies that are growing earnings tend to be the best dividend stocks over the long term. See what the 13 analysts we track are forecasting for Knorr-Bremse for free with public analyst estimates for the company.

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 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.

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.