Don't Buy Lovisa Holdings Limited (ASX:LOV) For Its Next Dividend Without Doing These Checks

Regular readers will know that we love our dividends at Simply Wall St, which is why it's exciting to see Lovisa Holdings Limited (ASX:LOV) is about to trade ex-dividend in the next 4 days. Typically, the ex-dividend date is one business day before the record date which is the date on which a company determines the shareholders eligible to receive a dividend. It is important to be aware of the ex-dividend date because any trade on the stock needs to have been settled on or before the record date. Thus, you can purchase Lovisa Holdings' shares before the 15th of September in order to receive the dividend, which the company will pay on the 21st of October.

The company's upcoming dividend is AU$0.18 a share, following on from the last 12 months, when the company distributed a total of AU$0.36 per share to shareholders. Calculating the last year's worth of payments shows that Lovisa Holdings has a trailing yield of 1.9% on the current share price of A$19.24. 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! We need to see whether the dividend is covered by earnings and if it's growing.

See our latest analysis for Lovisa Holdings

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. Lovisa Holdings distributed an unsustainably high 164% of its profit as dividends to shareholders last year. Without more sustainable payment behaviour, the dividend looks precarious. A useful secondary check can be to evaluate whether Lovisa Holdings generated enough free cash flow to afford its dividend. It paid out more than half (54%) of its free cash flow in the past year, which is within an average range for most companies.

It's disappointing to see that the dividend was not covered by profits, but cash is more important from a dividend sustainability perspective, and Lovisa Holdings 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. Extraordinarily few companies are capable of persistently paying a dividend that is greater than their profits.

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. If earnings fall far enough, the company could be forced to cut its dividend. This is why it's a relief to see Lovisa Holdings earnings per share are up 7.9% per annum over the last five years.

Another key way to measure a company's dividend prospects is by measuring its historical rate of dividend growth. Lovisa Holdings has delivered 15% dividend growth per year on average over the past seven years. It's encouraging to see the company lifting dividends while earnings are growing, suggesting at least some corporate interest in rewarding shareholders.

The Bottom Line

Should investors buy Lovisa Holdings for the upcoming dividend? Earnings per share have not grown all that much, and the company is paying out an uncomfortably high percentage of its income. Fortunately it paid out a lower percentage of its cash flow. It's not that we think Lovisa Holdings is a bad company, but these characteristics don't generally lead to outstanding dividend performance.

With that being said, if you're still considering Lovisa Holdings 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 Lovisa Holdings that you should be aware of before investing in their shares.

If you're in the market for dividend stocks, we recommend checking our list of top dividend stocks with a greater than 2% yield and an upcoming dividend.

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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.
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