Why It Might Not Make Sense To Buy McMillan Shakespeare Limited (ASX:MMS) For Its Upcoming Dividend

McMillan Shakespeare Limited (ASX:MMS) is about to trade ex-dividend in the next 4 days. You can purchase shares before the 28th of August in order to receive the dividend, which the company will pay on the 11th of September.

McMillan Shakespeare’s next dividend payment will be AU$0.40 per share, on the back of last year when the company paid a total of AU$0.74 to shareholders. Based on the last year’s worth of payments, McMillan Shakespeare stock has a trailing yield of around 4.6% on the current share price of A$16.03. If you buy this business for its dividend, you should have an idea of whether McMillan Shakespeare’s dividend is reliable and sustainable. We need to see whether the dividend is covered by earnings and if it’s growing.

Check out our latest analysis for McMillan Shakespeare

Dividends are typically paid from company earnings. If a company pays more in dividends than it earned in profit, then the dividend could be unsustainable. Last year, McMillan Shakespeare paid out 96% of its income as dividends, which is above a level that we’re comfortable with, especially if the company needs to reinvest in its business. 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. Dividends consumed 54% 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 McMillan Shakespeare’s dividends were not well covered by profits, at least they are affordable from a cash perspective. Still, if this were to happen repeatedly, we’d be concerned about whether the dividend is sustainable in a downturn.

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

ASX:MMS Historical Dividend Yield, August 23rd 2019
ASX:MMS Historical Dividend Yield, August 23rd 2019

Have Earnings And Dividends Been Growing?

Stocks with flat earnings can still be attractive dividend payers, but it is important to be more conservative with your approach and demand a greater margin for safety when it comes to dividend sustainability. 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 McMillan Shakespeare’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.

Another key way to measure a company’s dividend prospects is by measuring its historical rate of dividend growth. In the last 10 years, McMillan Shakespeare has lifted its dividend by approximately 16% a year on average.

Final Takeaway

From a dividend perspective, should investors buy or avoid McMillan Shakespeare? Earnings per share have barely moved in recent times, and the company is paying out an uncomfortably high percentage of its income. Fortunately its cash generation was somewhat stronger. With the way things are shaping up from a dividend perspective, we’d be inclined to steer clear of McMillan Shakespeare.

Wondering what the future holds for McMillan Shakespeare? See what the five 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.

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.