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Why You Should Leave Pacific Smiles Group Limited's (ASX:PSQ) Upcoming Dividend On The Shelf

Simply Wall St

Regular readers will know that we love our dividends at Simply Wall St, which is why it's exciting to see Pacific Smiles Group Limited (ASX:PSQ) is about to trade ex-dividend in the next 4 days. Investors can purchase shares before the 18th of March in order to be eligible for this dividend, which will be paid on the 3rd of April.

Pacific Smiles Group's next dividend payment will be AU$0.024 per share, on the back of last year when the company paid a total of AU$0.058 to shareholders. Based on the last year's worth of payments, Pacific Smiles Group has a trailing yield of 4.3% on the current stock price of A$1.35. We love seeing companies pay a dividend, but it's also important to be sure that laying the golden eggs isn't going to kill our golden goose! We need to see whether the dividend is covered by earnings and if it's growing.

View our latest analysis for Pacific Smiles Group

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. Last year Pacific Smiles Group paid out 106% of its profits as dividends to shareholders, suggesting the dividend is not well covered by earnings. Yet cash flow is typically more important than profit for assessing dividend sustainability, so we should always check if the company generated enough cash to afford its dividend. Over the last year it paid out 73% of its free cash flow as dividends, within the usual 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 Pacific Smiles Group 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. Extraordinarily few companies are capable of persistently paying a dividend that is greater than their profits.

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

ASX:PSQ Historical Dividend Yield, March 13th 2020

Have Earnings And Dividends Been Growing?

Companies that aren't growing their earnings can still be valuable, but it is even more important to assess the sustainability of the dividend if it looks like the company will struggle to grow. If business enters a downturn and the dividend is cut, the company could see its value fall precipitously. It's not encouraging to see that Pacific Smiles Group's earnings are effectively flat over the past five years. Better than seeing them fall off a cliff, for sure, but the best dividend stocks grow their earnings meaningfully over the long run.

Many investors will assess a company's dividend performance by evaluating how much the dividend payments have changed over time. In the last five years, Pacific Smiles Group has lifted its dividend by approximately 12% a year on average.

To Sum It Up

From a dividend perspective, should investors buy or avoid Pacific Smiles Group? Earnings per share have been flat in recent times, which is, we suppose, better than seeing them shrink. Plus, Pacific Smiles Group's paying out a high percentage of its earnings and more than half its cash flow. It's not an attractive combination from a dividend perspective, and we're inclined to pass on this one for the time being.

Having said that, if you're looking at this stock without much concern for the dividend, you should still be familiar of the risks involved with Pacific Smiles Group. For example - Pacific Smiles Group has 3 warning signs we think you should be aware of.

If you're in the market for dividend stocks, we recommend checking our list of top dividend stocks with a greater than 2% yield and an upcoming dividend.

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.