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Read This Before Buying Auswide Bank Ltd (ASX:ABA) For Its Dividend

Simply Wall St

Dividend paying stocks like Auswide Bank Ltd (ASX:ABA) 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. 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.

A high yield and a long history of paying dividends is an appealing combination for Auswide Bank. It would not be a surprise to discover that many investors buy it for the dividends. Before you buy any stock for its dividend however, you should always remember Warren Buffett's two rules: 1) Don't lose money, and 2) Remember rule #1. We'll run through some checks below to help with this.

Click the interactive chart for our full dividend analysis

ASX:ABA Historical Dividend Yield, October 19th 2019

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. In the last year, Auswide Bank paid out 85% of its profit as dividends. Paying out a majority of its earnings limits the amount that can be reinvested in the business. This may indicate a commitment to paying a dividend, or a dearth of investment opportunities.

We update our data on Auswide Bank every 24 hours, so you can always get our latest analysis of its financial health, here.

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. For the purpose of this article, we only scrutinise the last decade of Auswide Bank's dividend payments. This dividend has been unstable, which we define as having fallen by at least 20% one or more times over this time. During the past ten-year period, the first annual payment was AU$0.63 in 2009, compared to AU$0.34 last year. This works out to be a decline of approximately 5.8% per year over that time. Auswide Bank's dividend hasn't shrunk linearly at 5.8% per annum, but the CAGR is a useful estimate of the historical rate of change.

We struggle to make a case for buying Auswide Bank for its dividend, given that payments have shrunk over the past ten years.

Dividend Growth Potential

With a relatively unstable dividend, and a poor history of shrinking dividends, it's even more important to see if EPS are growing. While there may be fluctuations in the past , Auswide Bank's earnings per share have basically not grown from where they were five years ago. Flat earnings per share are acceptable for a time, but over the long term, the purchasing power of the company's dividends could be eroded by inflation. There are exceptions, but limited earnings growth and a high payout ratio can signal that a company is struggling to grow. When the rate of return on reinvestment opportunities falls below a certain minimum level, companies often elect to pay a larger dividend instead. This is why many mature companies often have larger dividend yields.

Conclusion

When we look at a dividend stock, we need to form a judgement on whether the dividend will grow, if the company is able to maintain it in a wide range of economic circumstances, and if the dividend payout is sustainable. Auswide Bank's payout ratio is within normal bounds. Unfortunately, the company has not been able to generate earnings growth, and cut its dividend at least once in the past. In summary, we're unenthused by Auswide Bank as a dividend stock. It's not that we think it is a bad company; it simply falls short of our criteria in some key areas.

See if management have their own wealth at stake, by checking insider shareholdings in Auswide Bank stock.

We have also put together a list of global stocks with a market capitalisation above $1bn and yielding more 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 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. Thank you for reading.