Don't Buy Deterra Royalties Limited (ASX:DRR) For Its Next Dividend Without Doing These Checks

Some investors rely on dividends for growing their wealth, and if you're one of those dividend sleuths, you might be intrigued to know that Deterra Royalties Limited (ASX:DRR) is about to go ex-dividend in just four days. The ex-dividend date is one business day before the record date, which is the cut-off date for shareholders to be present on the company's books to be eligible for a dividend payment. 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. Meaning, you will need to purchase Deterra Royalties' shares before the 27th of August to receive the dividend, which will be paid on the 24th of September.

The company's next dividend payment will be AU$0.144 per share, on the back of last year when the company paid a total of AU$0.29 to shareholders. Last year's total dividend payments show that Deterra Royalties has a trailing yield of 7.6% on the current share price of AU$3.85. We love seeing companies pay a dividend, but it's also important to be sure that laying the golden eggs isn't going to kill our golden goose! 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 Deterra Royalties

If a company pays out more in dividends than it earned, then the dividend might become unsustainable - hardly an ideal situation. Last year Deterra Royalties paid out 100% of its profits as dividends to shareholders, suggesting the dividend is not well covered by earnings. 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. It paid out 99% of its free cash flow in the form of dividends last year, which is outside the comfort zone for most businesses. Companies usually need cash more than they need earnings - expenses don't pay themselves - so it's not great to see it paying out so much of its cash flow.

As Deterra Royalties'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.

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

Have Earnings And Dividends Been Growing?

Stocks in companies that generate sustainable earnings growth often make the best dividend prospects, as it is easier to lift the dividend when earnings are rising. Investors love dividends, so if earnings fall and the dividend is reduced, expect a stock to be sold off heavily at the same time. For this reason, we're glad to see Deterra Royalties's earnings per share have risen 18% per annum over the last five years. It's not encouraging to see Deterra Royalties paying out basically all of its earnings and cashflow to shareholders. We're glad that earnings are growing rapidly, but we're wary of the company stretching itself financially.

Another key way to measure a company's dividend prospects is by measuring its historical rate of dividend growth. Deterra Royalties has delivered 81% dividend growth per year on average over the past three years. Both per-share earnings and dividends have both been growing rapidly in recent times, which is great to see.

To Sum It Up

From a dividend perspective, should investors buy or avoid Deterra Royalties? Earnings per share have been growing, despite the company paying out a concerningly high percentage of its earnings and cashflow. We struggle to see how a company paying out so much of its earnings and cash flow will be able to sustain its dividend in a downturn, or reinvest enough into its business to continue growing earnings without borrowing heavily. Overall it doesn't look like the most suitable dividend stock for a long-term buy and hold investor.

With that being said, if you're still considering Deterra Royalties as an investment, you'll find it beneficial to know what risks this stock is facing. Case in point: We've spotted 2 warning signs for Deterra Royalties you should be aware of.

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.