Why It Might Not Make Sense To Buy Treasury Wine Estates Limited (ASX:TWE) For Its Upcoming Dividend

Treasury Wine Estates Limited (ASX:TWE) stock is about to trade ex-dividend in four days. Typically, the ex-dividend date is two business days before the record date, which is the date on which a company determines the shareholders eligible 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. Accordingly, Treasury Wine Estates investors that purchase the stock on or after the 5th of March will not receive the dividend, which will be paid on the 2nd of April.

The company's next dividend payment will be AU$0.20 per share. Last year, in total, the company distributed AU$0.40 to shareholders. Calculating the last year's worth of payments shows that Treasury Wine Estates has a trailing yield of 3.6% on the current share price of AU$11.02. If you buy this business for its dividend, you should have an idea of whether Treasury Wine Estates's dividend is reliable and sustainable. As a result, readers should always check whether Treasury Wine Estates has been able to grow its dividends, or if the dividend might be cut.

Check out our latest analysis for Treasury Wine Estates

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. Treasury Wine Estates paid out a disturbingly high 207% of its profit as dividends last year, which makes us concerned there's something we don't fully understand in the business. A useful secondary check can be to evaluate whether Treasury Wine Estates generated enough free cash flow to afford its dividend. It paid out 86% of its free cash flow as dividends, which is within usual limits but will limit the company's ability to lift the dividend if there's no growth.

It's disappointing to see that the dividend was not covered by profits, but cash is more important from a dividend sustainability perspective, and Treasury Wine Estates fortunately did generate enough cash to fund its dividend. Still, if the company repeatedly paid a dividend greater than its profits, we'd be concerned. 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?

When earnings decline, dividend companies become much harder to analyse and own safely. If earnings fall far enough, the company could be forced to cut its dividend. Treasury Wine Estates's earnings per share have fallen at approximately 20% a year over the previous five years. When earnings per share fall, the maximum amount of dividends that can be paid also falls.

The main way most investors will assess a company's dividend prospects is by checking the historical rate of dividend growth. Since the start of our data, 10 years ago, Treasury Wine Estates has lifted its dividend by approximately 12% 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. Treasury Wine Estates is already paying out 207% of its profits, and with shrinking earnings we think it's unlikely that this dividend will grow quickly in the future.

To Sum It Up

From a dividend perspective, should investors buy or avoid Treasury Wine Estates? It's never fun to see a company's earnings per share in retreat. Additionally, Treasury Wine Estates is paying out quite a high percentage of its earnings, and more than half its cash flow, so it's hard to evaluate whether the company is reinvesting enough in its business to improve its situation. It's not an attractive combination from a dividend perspective, and we're inclined to pass on this one for the time being.

With that being said, if you're still considering Treasury Wine Estates as an investment, you'll find it beneficial to know what risks this stock is facing. To help with this, we've discovered 2 warning signs for Treasury Wine Estates (1 doesn't sit too well with us!) that you ought to be aware of before buying the shares.

If you're in the market for strong dividend payers, we recommend checking our selection of top dividend stocks.

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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.