Dividend Payout Ratio Bombs Ready To Explode
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Dividend payout ratio bombs ready to explode?
What’s this all about?
And what makes the dividend payout ratio so explosive?
I’m about to show you three stocks that are likely to blow up. You might as well haul around a volatile mixture of NI-3.
That’s the explosive amateur crackpots mix up using iodine and ammonia. It’s as unstable an explosive as you can find.
But even a big batch of NI-3 couldn’t do as much damage as one of these dividend payout ratio time bomb stocks. Let me show you what I mean.
The Dividend Payout Ratio Works Just Like A Detonator
At first glance, it might sound like boring arithmetic.
But the dividend payout ratio is what stands between you and an expensive explosion with your dividend stocks… especially your high yield dividend stocks.
It’s the number that tells you if a stock is stable, and will keep paying dividends… or if it’s like a batch of the volatile NI-3 explosive.
It’s the number that measures what percentage a company’s net income is used to pay the dividend.
There’s a sweet spot for this number, an ideal range you want it to be in. If the dividend payout ratio is too low, the company is too stingy. It’s not taking good care of shareholders.
But if the dividend payout ratio is too high, it’s like every warning light on your car’s dashboard flashing all at once. It means the company probably can’t afford to keep paying a dividend.
When the dividend payout ratio edges up over 60%, watch out. It’s creeping into territory where it can work as a detonator.
The company won’t be able to dance its way around a shortage of money much longer. It will have to blow up the dividend… either slash the dividend, or even get rid of it.
And when a dividend is cut, you can usually bank on the stock’s price taking a hit.
This is why we’re going to send in the bomb squad to defuse three time bomb stocks. If these stocks are in your portfolio, get rid of them while the going’s good.
And even if they’re not…
You’ll know how to defuse an explosive stock with all the skill of a member of the Israeli bomb squad… arguably the best in the world.
The Simple Recipe For Dividend Disaster
When profits trend down, the dividend payout ratio can easily trend up. If you keep an eye on the direction of quarterly earnings, you’ll have a good early warning system in place. It’s an easy way to get a feel for the direction of the dividend payout ratio.
Dividends are paid from a company’s cash flow. So check out the free cash flow, which is how much money is available to pay a dividend after the other bills have been paid… salaries, marketing, operations, the whole works.
Here are the 3 dividend stocks you need to dump…
Each stock’s ugly dividend payout ratio is ugly.
More than 60%.
But take a closer look and you’ll find even more good reasons why the fuse is about to blow, and the dividend is at risk.
The Wendy’s Company (WEN)
Wendy’s is struggling, like most other fast food companies. It just cleaned house in its marketing department. There’s a nasty lawsuit with its fourth largest franchisee. And the numbers sure aren’t much to feast on… three straight quarters of declining operating income in 2014.
But you know what’s bizarre?
Wendy’s stock has been on a tear.
I wouldn’t get on this bandwagon. No way. Not only do you have a dividend disaster waiting to happen, you’re paying for bone in ribeye and being served a burger.
Wendy’s Price to Earnings ratio is 29.62. The P/E for the broad market, the S&P 500 is 17.0.
No cheeseburger should ever taste good enough to lure you into paying a 70% premium.
Paychex, Inc. (PAYX)
Paychex has a lot going for it. It’s in a good business… outsourcing. Income has been going up. Profit margins are a solid 25.6%. And the dividend has been growing for four years.
But the dividend payout ratio is 82.2%. Somewhere, something’s not good.
Look at retained earnings… they’re going down. That’s because of the dividend. Is Paychex waltzing through a delicate and dicey balancing act right now? Will it need to reverse this trend, increase retained earnings to grow and to compete, and blow up the dividend in the process?
Could be. Which is too bad, because Paychex is a good company with a lot going for it.
Problem is, it needs to improve its margins and keep more of the money it makes. It can’t keep draining its bank account, like it did in Q3 2014.
National Bank Holdings Corp. (NBHC)
National Bank owns 97 small banks in towns like Edwardsville, Kansas (Population 4,355) and Macon, Missouri (Population 5,506).
It’s in a tough business in tough markets. Revenue has slumped 24% in three years. Net income is even more grim… down 83%.
Even though the dividend yield is low, just 1.08%, the dividend payout ratio is high, 90.9%.
Until operations turn around and these community banks start making money, shareholders are sitting on a time bomb.
Is there any reason to think these community banks are on the brink of a comeback?
The trends for the community bank market don’t look good. The banks haven’t been able to raise service charges. Return on equity is slumping.
But here’s what’s even more troubling about the community bank business. If you own one, and want to sell it to another bank, you’re in a jam. The number of community branch sales is skidding, and so are the prices sellers can get.
Not exactly a promising sign.
2 Other Explosive Signals To Watch For
Sometimes, the clues to a dividend payout ratio time bomb aren’t in the financial statement. You uncover them when you look at how the company spends money.
Here’s an example.
When a company makes an acquisition, it might decide to pick up the tab with a dividend cut. This happened when the big drug company Pfizer (PFE) bought Wyeth, another drug company.
Pfizer told shareholders in late 2008 it would cut its dividend in half. It wasn’t pretty.
So… if you own a stock and the company announces an acquisition, find out how it’s going to pay for it.
And if you see dividend yield creeping up…
Watch out. Things could turn ugly.
Check out my article, High Yield Dividend Stock Disaster to make sure you’re protected.
And get into the habit of keeping an eye on the dividend payout ratios of all your dividend stocks.
Track them. When a dividend payout ratio starts trending up, pay attention. Find out what’s happening.
And when the ticking of the time bomb gets so loud you can’t get a good night’s sleep, sell.
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The Wendy’s Company (WEN)
Dividend Yield: 2.21%
Annual Payout: $0.22
Payout Ratio: 64.7%
P/E: 31.06
Paychex, Inc. (PAYX)
Dividend Yield: 3.21%
Annual Payout: $1.52
Payout Ratio: 82.2%
P/E: 26.72
National Bank Holdings Corp. (NBHC)
Dividend Yield: 1.08%
Annual Payout: $0.20
Payout Ratio: 90.9%
P/E: 104.52
Regards,
Michael Jennings
Note: Michael Jennings writes and edits DividendStocksResearch.com. Sign up for our free dividend reports and dividend newsletter at https://www.dividendstocksresearch.com/free-sign-up. We’ll show you how to create regular income by investing in dividend stocks, easily, step-by-step.
Category: Dividend Basics
