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Three Things You Should Check Before Buying Kato (Hong Kong) Holdings Limited (HKG:2189) For Its Dividend

Simply Wall St

Is Kato (Hong Kong) Holdings Limited (HKG:2189) a good dividend stock? How can we tell? 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.

There are a few simple ways to reduce the risks of buying Kato (Hong Kong) Holdings for its dividend, and we'll go through these below.

Click the interactive chart for our full dividend analysis

SEHK:2189 Historical Dividend Yield, January 15th 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. Comparing dividend payments to a company's net profit after tax is a simple way of reality-checking whether a dividend is sustainable. Kato (Hong Kong) Holdings paid out 39% of its profit as dividends, over the trailing twelve month period. This is a medium payout level that leaves enough capital in the business to fund opportunities that might arise, while also rewarding shareholders. One of the risks is that management reinvests the retained capital poorly instead of paying a higher dividend.

With a strong net cash balance, Kato (Hong Kong) Holdings investors may not have much to worry about in the near term from a dividend perspective.

Consider getting our latest analysis on Kato (Hong Kong) Holdings's financial position 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. 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 HK$0.04 per share.

It's good to see at least some dividend growth. Yet with a relatively short dividend paying history, we wouldn't want to depend on this dividend too heavily.

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. Kato (Hong Kong) Holdings has grown its earnings per share at 4.3% per annum over the past five years. Kato (Hong Kong) Holdings 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?

We'd also point out that Kato (Hong Kong) Holdings issued a meaningful number of new shares in the past year. Trying to grow the dividend when issuing new shares reminds us of the ancient Greek tale of Sisyphus - perpetually pushing a boulder uphill. Companies that consistently issue new shares are often suboptimal from a dividend perspective.

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. Firstly, we like that Kato (Hong Kong) Holdings has a low and conservative payout ratio. Unfortunately, earnings growth has also been mediocre, and we think it has not been paying dividends long enough to demonstrate resilience across economic cycles. Overall we think Kato (Hong Kong) Holdings is an interesting dividend stock, although it could be better.

Are management backing themselves to deliver performance? Check their shareholdings in Kato (Hong Kong) Holdings in our latest insider ownership analysis.

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