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Is Yum China Holdings, Inc. (NYSE:YUMC) A Smart Choice For Dividend Investors?

Today we'll take a closer look at Yum China Holdings, Inc. (NYSE:YUMC) from a dividend investor's perspective. Owning a strong business and reinvesting the dividends is widely seen as an attractive way of growing your wealth. 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 only a two-year payment history, and a 1.1% yield, investors probably think Yum China Holdings is not much of a dividend stock. A low dividend might not be a bad thing, if the company is reinvesting heavily and growing its sales and profits. The company also bought back stock during the year, equivalent to approximately 2.2% 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.

Explore this interactive chart for our latest analysis on Yum China Holdings!

NYSE:YUMC Historical Dividend Yield, September 24th 2019
NYSE:YUMC Historical Dividend Yield, September 24th 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. 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, Yum China Holdings paid out 26% of its profit as dividends. This is a middling range that strikes a nice balance between paying dividends to shareholders, and retaining enough earnings to invest in future growth. Plus, there is room to increase the payout ratio over time.

We also measure dividends paid against a company's levered free cash flow, to see if enough cash was generated to cover the dividend. Yum China Holdings's cash payout ratio last year was 24%, which is quite low and suggests that the dividend was thoroughly covered by cash flow. It's positive to see that Yum China Holdings'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.

With a strong net cash balance, Yum China Holdings investors may not have much to worry about in the near term from a dividend perspective.

We update our data on Yum China Holdings 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. The dividend has not fluctuated much, but with a relatively short payment history, we can't be sure this is sustainable across a full market cycle. During the past two-year period, the first annual payment was US$0.40 in 2017, compared to US$0.48 last year. This works out to be a compound annual growth rate (CAGR) of approximately 9.5% a year over that time.

The dividend has been growing at a reasonable rate, which we like. We're conscious though that one of the best ways to detect a multi-decade consistent dividend-payer, is to watch a company pay dividends for 20 years - a distinction Yum China Holdings has not achieved yet.

Dividend Growth Potential

While dividend payments have been relatively reliable, it would also be nice if earnings per share (EPS) were growing, as this is essential to maintaining the dividend's purchasing power over the long term. Strong earnings per share (EPS) growth might encourage our interest in the company despite fluctuating dividends, which is why it's great to see Yum China Holdings has grown its earnings per share at 26% per annum over the past three years. With high earnings per share growth in recent times and a modest payout ratio, we think this is an attractive combination if earnings can be reinvested to generate further growth.

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. We were also glad to see it growing earnings, although its dividend history is not as long as we'd like. All things considered, Yum China Holdings looks like a strong prospect. At the right valuation, it could be something special.

Companies that are growing earnings tend to be the best dividend stocks over the long term. See what the 14 analysts we track are forecasting for Yum China Holdings for free with public analyst estimates for the company.

Looking for more high-yielding dividend ideas? Try our curated list of dividend stocks with a yield 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.

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