Is Compass Minerals International, Inc. (NYSE:CMP) a good dividend stock? How can we tell? Dividend paying companies with growing earnings can be highly rewarding in the long term. If you are hoping to live on the income from dividends, it’s important to be a lot more stringent with your investments than the average punter.
A high yield and a long history of paying dividends is an appealing combination for Compass Minerals International. It would not be a surprise to discover that many investors buy it for the dividends. There are a few simple ways to reduce the risks of buying Compass Minerals International for its dividend, and we’ll go through these below.
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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. In the last year, Compass Minerals International paid out 173% of its profit as dividends. A payout ratio above 100% is definitely an item of concern, unless there are some other circumstances that would justify it.
We also measure dividends paid against a company’s levered free cash flow, to see if enough cash was generated to cover the dividend. With a cash payout ratio of 478%, Compass Minerals International’s dividend payments are poorly covered by cash flow. Paying out such a high percentage of cash flow suggests that the dividend was funded from either cash at bank or by borrowing, neither of which is desirable over the long term. As Compass Minerals International’s dividend was not well covered by either earnings or cash flow, we would be concerned that this dividend could be at risk over the long term.
Is Compass Minerals International’s Balance Sheet Risky?
As Compass Minerals International’s dividend was not well covered by earnings, we need to check its balance sheet for signs of financial distress. A rough way to check this is with these two simple ratios: a) net debt divided by EBITDA (earnings before interest, tax, depreciation and amortisation), and b) net interest cover. Net debt to EBITDA is a measure of a company’s total debt. Net interest cover measures the ability to meet interest payments. Essentially we check that a) the company does not have too much debt, and b) that it can afford to pay the interest. Compass Minerals International has net debt of 5.09 times its EBITDA, which implies meaningful risk if interest rates rise of earnings decline.
Net interest cover can be calculated by dividing earnings before interest and tax (EBIT) by the company’s net interest expense. With EBIT of 2.08 times its interest expense, Compass Minerals International’s interest cover is starting to look a bit thin. High debt and weak interest cover are not a great combo, and we would be cautious of relying on this company’s dividend while these metrics persist.
We update our data on Compass Minerals International every 24 hours, so you can always get our latest analysis of its financial health, 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. For the purpose of this article, we only scrutinise the last decade of Compass Minerals International’s dividend payments. During this period the dividend has been stable, which could imply the business could have relatively consistent earnings power. During the past ten-year period, the first annual payment was US$1.42 in 2010, compared to US$2.88 last year. Dividends per share have grown at approximately 7.3% per year over this time.
Companies like this, growing their dividend at a decent rate, can be very valuable over the long term, if the rate of growth can be maintained.
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. Compass Minerals International’s earnings per share have shrunk at 16% a year over the past five years. With this kind of significant decline, we always wonder what has changed in the business. Dividends are about stability, and Compass Minerals International’s earnings per share, which support the dividend, have been anything but stable.
Conclusion
When we look at a dividend stock, we need to form a judgement on whether the dividend will grow, if the company is able to maintain it in a wide range of economic circumstances, and if the dividend payout is sustainable. We’re a bit uncomfortable with Compass Minerals International paying out a high percentage of both its cashflow and earnings. It’s not great to see earnings per share shrinking. The dividends have been relatively consistent, but we wonder for how much longer this will be true. Using these criteria, Compass Minerals International looks quite suboptimal from a dividend investment perspective.
Given that earnings are not growing, the dividend does not look nearly so attractive. Businesses can change though, and we think it would make sense to see what analysts are forecasting for the company.
Looking for more high-yielding dividend ideas? Try our curated list of dividend stocks with a yield above 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.
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