Why It Might Not Make Sense To Buy Chevron Corporation (NYSE:CVX) For Its Upcoming Dividend

It looks like Chevron Corporation (NYSE:CVX) is about to go ex-dividend in the next 3 days. If you purchase the stock on or after the 14th of February, you won't be eligible to receive this dividend, when it is paid on the 10th of March.

Chevron's upcoming dividend is US$1.29 a share, following on from the last 12 months, when the company distributed a total of US$5.16 per share to shareholders. Looking at the last 12 months of distributions, Chevron has a trailing yield of approximately 4.7% on its current stock price of $108.94. Dividends are a major contributor to investment returns for long term holders, but only if the dividend continues to be paid. That's why we should always check whether the dividend payments appear sustainable, and if the company is growing.

Check out our latest analysis for Chevron

Dividends are usually paid out of company profits, so if a company pays out more than it earned then its dividend is usually at greater risk of being cut. Chevron paid out a disturbingly high 306% of its profit as dividends last year, which makes us concerned there's something we don't fully understand in the business. That said, even highly profitable companies sometimes might not generate enough cash to pay the dividend, which is why we should always check if the dividend is covered by cash flow. Dividends consumed 68% of the company's free cash flow last year, which is within a normal range for most dividend-paying organisations.

It's good to see that while Chevron's dividends were not covered by profits, at least they are affordable from a cash perspective. If executives were to continue paying more in dividends than the company reported in profits, we'd view this as a warning sign. Very few companies are able to sustainably pay dividends larger than their reported earnings.

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

Have Earnings And Dividends Been Growing?

Businesses with shrinking earnings are tricky from a dividend perspective. If earnings fall far enough, the company could be forced to cut its dividend. Chevron's earnings per share have plummeted approximately 31% a year over the previous five years.

Another key way to measure a company's dividend prospects is by measuring its historical rate of dividend growth. In the last ten years, Chevron has lifted its dividend by approximately 7.1% a year on average. The only way to pay higher dividends when earnings are shrinking is either to pay out a larger percentage of profits, spend cash from the balance sheet, or borrow the money. Chevron is already paying out a high percentage of its income, so without earnings growth, we're doubtful of whether this dividend will grow much in the future.

The Bottom Line

Has Chevron got what it takes to maintain its dividend payments? Earnings per share have been shrinking in recent times. What's more, Chevron is paying out a majority of its earnings and over half its free cash flow. It's hard to say if the business has the financial resources and time to turn things around without cutting the dividend. Bottom line: Chevron has some unfortunate characteristics that we think could lead to sub-optimal outcomes for dividend investors.

Ever wonder what the future holds for Chevron? See what the 13 analysts we track are forecasting, with this visualisation of its historical and future estimated earnings and cash flow

We wouldn't recommend just buying the first dividend stock you see, though. Here's a list of interesting 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.

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