Here's What You Should Know About Localiza Rent a Car S.A.'s (BVMF:RENT3) 0.6% Dividend Yield

Dividend paying stocks like Localiza Rent a Car S.A. (BVMF:RENT3) tend to be popular with investors, and for good reason - some research suggests a significant amount of all stock market returns come from reinvested dividends. Yet sometimes, investors buy a popular dividend stock because of its yield, and then lose money if the company's dividend doesn't live up to expectations.

A 0.6% yield is nothing to get excited about, but investors probably think the long payment history suggests Localiza Rent a Car has some staying power. There are a few simple ways to reduce the risks of buying Localiza Rent a Car for its dividend, and we'll go through these below.

Explore this interactive chart for our latest analysis on Localiza Rent a Car!

Payout ratios

Dividends are usually paid out of company earnings. If a company is paying more than it earns, then the dividend might become unsustainable - hardly an ideal situation. So we need to form a view on if a company's dividend is sustainable, relative to its net profit after tax. Localiza Rent a Car paid out 33% of its profit as dividends, over the trailing twelve month period. This is a middling range that strikes a nice balance between paying dividends to shareholders, and retaining enough earnings to invest in future growth. Plus, there is room to increase the payout ratio over time.

Another important check we do is to see if the free cash flow generated is sufficient to pay the dividend. Last year, Localiza Rent a Car paid a dividend while reporting negative free cash flow. While there may be an explanation, we think this behaviour is generally not sustainable.

Consider getting our latest analysis on Localiza Rent a Car's financial position here.

Dividend Volatility

One of the major risks of relying on dividend income, is the potential for a company to struggle financially and cut its dividend. Not only is your income cut, but the value of your investment declines as well - nasty. For the purpose of this article, we only scrutinise the last decade of Localiza Rent a Car's dividend payments. During this period the dividend has been stable, which could imply the business could have relatively consistent earnings power. During the past 10-year period, the first annual payment was R$0.05 in 2011, compared to R$0.4 last year. Dividends per share have grown at approximately 25% per year over this time.

With rapid dividend growth and no notable cuts to the dividend over a lengthy period of time, we think this company has a lot going for it.

Dividend Growth Potential

While dividend payments have been relatively reliable, it would also be nice if earnings per share (EPS) were growing, as this is essential to maintaining the dividend's purchasing power over the long term. Strong earnings per share (EPS) growth might encourage our interest in the company despite fluctuating dividends, which is why it's great to see Localiza Rent a Car has grown its earnings per share at 15% per annum over the past five years. A company paying out less than a quarter of its earnings as dividends, and growing earnings at more than 10% per annum, looks to be right in the cusp of its growth phase. At the right price, we might be interested.

Conclusion

To summarise, shareholders should always check that Localiza Rent a Car's dividends are affordable, that its dividend payments are relatively stable, and that it has decent prospects for growing its earnings and dividend. It's great to see that Localiza Rent a Car is paying out a low percentage of its earnings and cash flow. That said, we were glad to see it growing earnings and paying a fairly consistent dividend. Localiza Rent a Car has met all of our criteria, including having strong cash flow that covers the dividend. We definitely think it would be worthwhile looking closer.

Market movements attest to how highly valued a consistent dividend policy is compared to one which is more unpredictable. Still, investors need to consider a host of other factors, apart from dividend payments, when analysing a company. Taking the debate a bit further, we've identified 1 warning sign for Localiza Rent a Car that investors need to be conscious of moving forward.

If you are a dividend investor, you might also want to look at our curated list of dividend stocks yielding above 3%.

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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. 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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