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Is Retail Properties of America, Inc. (NYSE:RPAI) a good dividend stock? How would you know? Dividend paying companies with growing earnings can be highly rewarding in the long term. Yet sometimes, investors buy a stock for its dividend and lose money because the share price falls by more than they earned in dividend payments.
With a goodly-sized dividend yield despite a relatively short payment history, investors might be wondering if Retail Properties of America is a new dividend aristocrat in the making. We'd agree the yield does look enticing. The company also bought back stock equivalent to around 2.9% of market capitalisation this year. Some simple analysis can reduce the risk of holding Retail Properties of America for its dividend, and we'll focus on the most important aspects below.
Dividends are typically paid from company earnings. If a company pays more in dividends than it earned, then the dividend might become unsustainable - hardly an ideal situation. So we need to form a view on if a company's dividend is sustainable, relative to its net profit after tax. In the last year, Retail Properties of America paid out 64% of its profit as dividends. 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.
In addition to comparing dividends against profits, we should inspect whether the company generated enough cash to pay its dividend. Retail Properties of America paid out 114% of its free cash flow last year, suggesting the dividend is poorly covered by cash flow. Retail Properties of America paid out less in dividends than it reported in profits, but unfortunately it didn't generate enough free cash flow to cover the dividend. Cash is king, as they say, and were Retail Properties of America to repeatedly pay dividends that aren't well covered by cashflow, we would consider this a warning sign.
Is Retail Properties of America's Balance Sheet Risky?
As Retail Properties of America has a meaningful amount of debt, we need to check its balance sheet to see if the company might have debt risks. A quick way to check a company's financial situation uses these 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 on debt. Essentially we check that a) a company does not have too much debt, and b) that it can afford to pay the interest. Retail Properties of America has net debt of 5.69 times its earnings before interest, tax, depreciation and amortisation (EBITDA) which implies meaningful risk if interest rates rise of earnings decline.
Net interest cover can be calculated by dividing earnings before interest and tax (EBIT) by the company's net interest expense. Interest cover of less than 5x its interest expense is starting to become a concern for Retail Properties of America, and be aware that lenders may place additional restrictions on the company as well. Low interest cover and high debt can create problems right when the investor least needs them. We're generally reluctant to rely on the dividend of companies with these traits.
Before buying a stock for its income, we want to see if the dividends have been stable in the past, and if the company has a track record of maintaining its dividend. Retail Properties of America has been paying a dividend for the past seven years. The dividend has been quite stable over the past seven years, which is great to see - although we usually like to see the dividend maintained for a decade before giving it full marks, though. Its most recent annual dividend was US$0.66 per share, effectively flat on its first payment seven years ago.
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
The other half of the dividend investing equation is evaluating whether earnings per share (EPS) are growing. Over the long term, dividends need to grow at or above the rate of inflation, in order to maintain the recipient's purchasing power. It's good to see Retail Properties of America has been growing its earnings per share at 30% a year over the past 5 years. With recent, rapid earnings per share growth and a payout ratio of 64%, this business looks like an interesting prospect if earnings are reinvested effectively.
To summarise, shareholders should always check that Retail Properties of America's dividends are affordable, that its dividend payments are relatively stable, and that it has decent prospects for growing its earnings and dividend. Retail Properties of America gets a pass on its dividend payout ratio, but it paid out virtually all of its cash flow as dividends. This may just be a one-off, but we'd keep an eye on this. Next, earnings growth has been good, but unfortunately the company has not been paying dividends as long as we'd like. Ultimately, Retail Properties of America 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.
Companies that are growing earnings tend to be the best dividend stocks over the long term. See what the 6 analysts we track are forecasting for Retail Properties of America for free with public analyst estimates for the company.
We have also put together a list of global stocks with a market capitalisation above $1bn and yielding more 3%.
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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.