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It Might Not Be A Great Idea To Buy Domino's Pizza Enterprises Limited (ASX:DMP) For Its Next Dividend

Regular readers will know that we love our dividends at Simply Wall St, which is why it's exciting to see Domino's Pizza Enterprises Limited (ASX:DMP) is about to trade ex-dividend in the next two days. Typically, the ex-dividend date is one business day before the record date which is the date on which a company determines the shareholders eligible to receive a dividend. The ex-dividend date is important because any transaction on a stock needs to have been settled before the record date in order to be eligible for a dividend. Therefore, if you purchase Domino's Pizza Enterprises' shares on or after the 26th of February, you won't be eligible to receive the dividend, when it is paid on the 27th of March.

The company's next dividend payment will be AU$0.555 per share, on the back of last year when the company paid a total of AU$0.85 to shareholders. Based on the last year's worth of payments, Domino's Pizza Enterprises stock has a trailing yield of around 2.0% on the current share price of AU$43.51. Dividends are a major contributor to investment returns for long term holders, but only if the dividend continues to be paid. That's why we should always check whether the dividend payments appear sustainable, and if the company is growing.

See our latest analysis for Domino's Pizza Enterprises

Dividends are typically paid out of company income, so if a company pays out more than it earned, its dividend is usually at a higher risk of being cut. Domino's Pizza Enterprises distributed an unsustainably high 158% of its profit as dividends to shareholders last year. Without extenuating circumstances, we'd consider the dividend at risk of a cut. A useful secondary check can be to evaluate whether Domino's Pizza Enterprises generated enough free cash flow to afford its dividend. It paid out more than half (57%) of its free cash flow in the past year, which is within an average range for most companies.

It's disappointing to see that the dividend was not covered by profits, but cash is more important from a dividend sustainability perspective, and Domino's Pizza Enterprises fortunately did generate enough cash to fund its dividend. Still, if the company repeatedly paid a dividend greater than its profits, we'd be concerned. Very few companies are able to sustainably pay dividends larger than their reported earnings.

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

historic-dividend
historic-dividend

Have Earnings And Dividends Been Growing?

When earnings decline, dividend companies become much harder to analyse and own safely. If earnings decline and the company is forced to cut its dividend, investors could watch the value of their investment go up in smoke. Readers will understand then, why we're concerned to see Domino's Pizza Enterprises's earnings per share have dropped 15% a year over the past five years. Ultimately, when earnings per share decline, the size of the pie from which dividends can be paid, shrinks.

The main way most investors will assess a company's dividend prospects is by checking the historical rate of dividend growth. Since the start of our data, 10 years ago, Domino's Pizza Enterprises has lifted its dividend by approximately 11% a year on average. The only way to pay higher dividends when earnings are shrinking is either to pay out a larger percentage of profits, spend cash from the balance sheet, or borrow the money. Domino's Pizza Enterprises is already paying out 158% of its profits, and with shrinking earnings we think it's unlikely that this dividend will grow quickly in the future.

Final Takeaway

From a dividend perspective, should investors buy or avoid Domino's Pizza Enterprises? It's never fun to see a company's earnings per share in retreat. What's more, Domino's Pizza Enterprises is paying out a majority of its earnings and over half its free cash flow. It's hard to say if the business has the financial resources and time to turn things around without cutting the dividend. It's not the most attractive proposition from a dividend perspective, and we'd probably give this one a miss for now.

Although, if you're still interested in Domino's Pizza Enterprises and want to know more, you'll find it very useful to know what risks this stock faces. To help with this, we've discovered 3 warning signs for Domino's Pizza Enterprises that you should be aware of before investing in their shares.

Generally, we wouldn't recommend just buying the first dividend stock you see. Here's a curated list of interesting stocks that are strong dividend payers.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.

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