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Why AAR Corp. (NYSE:AIR) Is A Dividend Rockstar

Simply Wall St

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Is AAR Corp. (NYSE:AIR) 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 0.9% yield and a eight-year payment history, investors probably think AAR looks like a reliable dividend stock. A 0.9% yield is not inspiring, but the longer payment history has some appeal. Some simple analysis can reduce the risk of holding AAR for its dividend, and we'll focus on the most important aspects below.

Click the interactive chart for our full dividend analysis

NYSE:AIR Historical Dividend Yield, June 17th 2019

Payout ratios

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. Looking at the data, we can see that 14% of AAR's profits were paid out as dividends in the last 12 months. We like this low payout ratio, because it implies the dividend is well covered and leaves ample opportunity for reinvestment.

Another important check we do is to see if the free cash flow generated is sufficient to pay the dividend. AAR paid out a conservative 26% of its free cash flow as dividends last year. It's positive to see that AAR's dividend is covered by both profits and cash flow, since this is generally a sign that the dividend is sustainable, and a lower payout ratio usually suggests a greater margin of safety before the dividend gets cut.

Consider getting our latest analysis on AAR's financial position here.

Dividend Volatility

One of the major risks of relying on dividend income, is the potential for a company to struggle financially and cut its dividend. Not only is your income cut, but the value of your investment declines as well - nasty. The first recorded dividend for AAR, in the last decade, was eight years ago. Its dividend has not fluctuated much that time, which we like, but we're conscious that the company might not yet have a track record of maintaining dividends in all economic conditions. Its most recent annual dividend was US$0.30 per share, effectively flat on its first payment eight years ago.

We like that the dividend hasn't been shrinking. However we're conscious that the company hasn't got an overly long track record of dividend payments yet, which makes us wary of relying on its dividend income.

Dividend Growth Potential

Examining whether the dividend is affordable and stable is important. However, it's also important to assess if 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. Strong earnings per share (EPS) growth might encourage our interest in the company despite fluctuating dividends, which is why it's great to see AAR has grown its earnings per share at 12% per annum over the past five years. Rapid earnings growth and a low payout ratio suggests this company has been effectively reinvesting in its business. Should that continue, this company could have a bright future.

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. First, we like that the company's dividend payments appear well covered, although the retained capital also needs to be effectively reinvested. Next, earnings growth has been good, but unfortunately the company has not been paying dividends as long as we'd like. All things considered, AAR looks like a strong prospect. At the right valuation, it could be something special.

Earnings growth generally bodes well for the future value of company dividend payments. See if the 5 AAR analysts we track are forecasting continued growth with our free report on 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 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.