Why It Might Not Make Sense To Buy Woolworths Group Limited (ASX:WOW) For Its Upcoming Dividend

Readers hoping to buy Woolworths Group Limited (ASX:WOW) for its dividend will need to make their move shortly, as the stock is about to trade ex-dividend. The ex-dividend date is two business days before a company's record date in most cases, which is the date on which the company determines which shareholders are entitled to receive a dividend. The ex-dividend date is important because any transaction on a stock needs to have been settled before the record date in order to be eligible for a dividend. Therefore, if you purchase Woolworths Group's shares on or after the 5th of March, you won't be eligible to receive the dividend, when it is paid on the 23rd of April.

The company's upcoming dividend is AU$0.39 a share, following on from the last 12 months, when the company distributed a total of AU$1.04 per share to shareholders. Calculating the last year's worth of payments shows that Woolworths Group has a trailing yield of 3.5% on the current share price of AU$30.01. Dividends are a major contributor to investment returns for long term holders, but only if the dividend continues to be paid. So we need to investigate whether Woolworths Group can afford its dividend, and if the dividend could grow.

View our latest analysis for Woolworths Group

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. Woolworths Group is paying out an acceptable 72% of its profit, a common payout level among most companies. Yet cash flows are even more important than profits for assessing a dividend, so we need to see if the company generated enough cash to pay its distribution. Over the past year it paid out 144% of its free cash flow as dividends, which is uncomfortably high. We're curious about why the company paid out more cash than it generated last year, since this can be one of the early signs that a dividend may be unsustainable.

Woolworths Group paid out less in dividends than it reported in profits, but unfortunately it didn't generate enough cash to cover the dividend. Were this to happen repeatedly, this would be a risk to Woolworths Group's ability to maintain its dividend.

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

Have Earnings And Dividends Been Growing?

Businesses with strong growth prospects usually make the best dividend payers, because it's easier to grow dividends when earnings per share are improving. If earnings fall far enough, the company could be forced to cut its dividend. This is why it's a relief to see Woolworths Group earnings per share are up 3.1% per annum over the last five years. Earnings have been growing somewhat, but we're concerned dividend payments consumed most of the company's cash flow over the past year.

Many investors will assess a company's dividend performance by evaluating how much the dividend payments have changed over time. Woolworths Group's dividend payments per share have declined at 2.6% per year on average over the past 10 years, which is uninspiring. It's unusual to see earnings per share increasing at the same time as dividends per share have been in decline. We'd hope it's because the company is reinvesting heavily in its business, but it could also suggest business is lumpy.

To Sum It Up

Is Woolworths Group an attractive dividend stock, or better left on the shelf? Earnings per share have grown somewhat, although Woolworths Group paid out over half its profits and the dividend was not well covered by free cash flow. It's not the most attractive proposition from a dividend perspective, and we'd probably give this one a miss for now.

With that in mind though, if the poor dividend characteristics of Woolworths Group don't faze you, it's worth being mindful of the risks involved with this business. Our analysis shows 3 warning signs for Woolworths Group and you should be aware of these before buying any shares.

Generally, we wouldn't recommend just buying the first dividend stock you see. Here's a curated list of interesting stocks that are strong dividend payers.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.