Dividend paying stocks like Power Integrations, Inc. (NASDAQ:POWI) tend to be popular with investors, and for good reason - some research suggests a significant amount of all stock market returns come from reinvested dividends. 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.
A slim 1.0% yield is hard to get excited about, but the long payment history is respectable. At the right price, or with strong growth opportunities, Power Integrations could have potential. The company also bought back stock during the year, equivalent to approximately 3.4% of the company's market capitalisation at the time. Some simple analysis can offer a lot of insights when buying a company for its dividend, and we'll go through this below.
Want to participate in a short research study? Help shape the future of investing tools and you could win a $250 gift card!
Dividends are usually paid out of company earnings. If a company is paying more than it earns, then the dividend might become unsustainable - hardly an ideal situation. 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. Power Integrations paid out 30% of its profit as dividends, over the trailing twelve month period. A medium payout ratio strikes a good balance between paying dividends, and keeping enough back to invest in the business. Besides, if reinvestment opportunities dry up, the company has room to increase the dividend.
In addition to comparing dividends against profits, we should inspect whether the company generated enough cash to pay its dividend. Power Integrations paid out a conservative 40% of its free cash flow as dividends last year.
While the above analysis focuses on dividends relative to a company's earnings, we do note Power Integrations'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 Power Integrations's latest financial position, by checking our visualisation of its financial health.
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. Power Integrations has been paying dividends for a long time, but for the purpose of this analysis, we only examine the past 10 years of 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$0.10 in 2009, compared to US$0.68 last year. This works out to be a compound annual growth rate (CAGR) of approximately 21% a year over that time.
Dividend Growth Potential
Dividend payments have been consistent over the past few years, but we should always check if earnings per share (EPS) are growing, as this will help maintain the purchasing power of the dividend. Earnings have grown at around 2.1% a year for the past five years, which is better than seeing them shrink! Power Integrations is paying out less than half of its earnings, which we like. However, earnings per share are unfortunately not growing much. Might this suggest that the company should pay a higher dividend instead?
To summarise, shareholders should always check that Power Integrations's dividends are affordable, that its dividend payments are relatively stable, and that it has decent prospects for growing its earnings and dividend. Firstly, we like that Power Integrations has low and conservative payout ratios. Earnings per share growth has been slow, but we respect a company that maintains a relatively stable dividend. Power Integrations performs highly under this analysis, although it falls slightly short of our exacting standards. At the right valuation, it could be a solid dividend prospect.
Companies that are growing earnings tend to be the best dividend stocks over the long term. See what the 5 analysts we track are forecasting for Power Integrations 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%.
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.
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. Thank you for reading.