Here's How We Evaluate EDP - Energias do Brasil S.A.'s (BVMF:ENBR3) Dividend

Dividend paying stocks like EDP - Energias do Brasil S.A. (BVMF:ENBR3) 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. On the other hand, investors have been known to buy a stock because of its yield, and then lose money if the company's dividend doesn't live up to expectations.

A slim 3.0% yield is hard to get excited about, but the long payment history is respectable. At the right price, or with strong growth opportunities, EDP - Energias do Brasil could have potential. Before you buy any stock for its dividend however, you should always remember Warren Buffett's two rules: 1) Don't lose money, and 2) Remember rule #1. We'll run through some checks below to help with this.

Explore this interactive chart for our latest analysis on EDP - Energias do Brasil!

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. Comparing dividend payments to a company's net profit after tax is a simple way of reality-checking whether a dividend is sustainable. In the last year, EDP - Energias do Brasil paid out 27% of its profit as dividends. 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. EDP - Energias do Brasil paid out 53% of its free cash flow last year, which is acceptable, but is starting to limit the amount of earnings that can be reinvested into the business. It's positive to see that EDP - Energias do Brasil's dividend is covered by both profits and cash flow, since this is generally a sign that the dividend is sustainable, and a lower payout ratio usually suggests a greater margin of safety before the dividend gets cut.

Consider getting our latest analysis on EDP - Energias do Brasil's financial position here.

Dividend Volatility

Before buying a stock for its income, we want to see if the dividends have been stable in the past, and if the company has a track record of maintaining its dividend. For the purpose of this article, we only scrutinise the last decade of EDP - Energias do Brasil's dividend payments. This dividend has been unstable, which we define as having been cut one or more times over this time. During the past 10-year period, the first annual payment was R$0.6 in 2011, compared to R$0.6 last year. The dividend has shrunk at a rate of less than 1% a year over this period.

We struggle to make a case for buying EDP - Energias do Brasil for its dividend, given that payments have shrunk over the past 10 years.

Dividend Growth Potential

Given that the dividend has been cut in the past, we need to check if earnings are growing and if that might lead to stronger dividends in the future. Over the past five years, it looks as though EDP - Energias do Brasil's EPS have declined at around 3.1% a year. Declining earnings per share over a number of years is not a great sign for the dividend investor. Without some improvement, this does not bode well for the long term value of a company's dividend.

Conclusion

Dividend investors should always want to know if a) a company's dividends are affordable, b) if there is a track record of consistent payments, and c) if the dividend is capable of growing. Above all, we're glad to see that EDP - Energias do Brasil pays out a low fraction of its earnings and, while it paid a higher percentage of cashflow, this also was within a normal range. Earnings per share are down, and EDP - Energias do Brasil's dividend has been cut at least once in the past, which is disappointing. Ultimately, EDP - Energias do Brasil comes up short on our dividend analysis. It's not that we think it is a bad company - just that there are likely more appealing dividend prospects out there on this analysis.

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. For instance, we've picked out 2 warning signs for EDP - Energias do Brasil that investors should take into consideration.

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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