Is Neoenergia S.A. (BVMF:NEOE3) The Right Choice For A Smart Dividend Investor?

Could Neoenergia S.A. (BVMF:NEOE3) be an attractive dividend share to own for the long haul? Investors are often drawn to strong companies with the idea of reinvesting the 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.

With only a two-year payment history, and a 2.4% yield, investors probably think Neoenergia is not much of a dividend stock. While it may not look like much, if earnings are growing it could become quite interesting. Some simple research can reduce the risk of buying Neoenergia for its dividend - read on to learn more.

Explore this interactive chart for our latest analysis on Neoenergia!

Payout ratios

Companies (usually) pay dividends out of their earnings. If a company is paying more than it earns, the dividend might have to be cut. Comparing dividend payments to a company's net profit after tax is a simple way of reality-checking whether a dividend is sustainable. Neoenergia paid out 23% of its profit as dividends, over the trailing twelve month period. Given the low payout ratio, it is hard to envision the dividend coming under threat, barring a catastrophe.

Another important check we do is to see if the free cash flow generated is sufficient to pay the dividend. Neoenergia paid out 91% of its free cash flow last year, suggesting the dividend is poorly covered by cash flow. Neoenergia paid out less in dividends than it reported in profits, but unfortunately it didn't generate enough free cash flow to cover the dividend. Cash is king, as they say, and were Neoenergia to repeatedly pay dividends that aren't well covered by cashflow, we would consider this a warning sign.

We update our data on Neoenergia every 24 hours, so you can always get our latest analysis of its financial health, here.

Dividend Volatility

From the perspective of an income investor who wants to earn dividends for many years, there is not much point buying a stock if its dividend is regularly cut or is not reliable. This company's dividend has been unstable, and with a relatively short history, we think it's a little soon to draw strong conclusions about its long term dividend potential. During the past two-year period, the first annual payment was R$0.6 in 2019, compared to R$0.5 last year. This works out to a decline of approximately 23% over that time.

We struggle to make a case for buying Neoenergia for its dividend, given that payments have shrunk over the past two years.

Dividend Growth Potential

With a relatively unstable dividend, and a poor history of shrinking dividends, it's even more important to see if EPS are growing. It's good to see Neoenergia has been growing its earnings per share at 19% a year over the past five years. Rapid earnings growth and a low payout ratio suggests this company has been effectively reinvesting in its business. Should that continue, this company could have a bright future.

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. Firstly, the company has a conservative payout ratio, although we'd note that its cashflow in the past year was substantially lower than its reported profit. Next, earnings growth has been good, but unfortunately the dividend has been cut at least once in the past. While we're not hugely bearish on it, overall we think there are potentially better dividend stocks than Neoenergia out there.

Market movements attest to how highly valued a consistent dividend policy is compared to one which is more unpredictable. However, there are other things to consider for investors when analysing stock performance. To that end, Neoenergia has 2 warning signs (and 1 which shouldn't be ignored) we think you should know about.

Looking for more high-yielding dividend ideas? Try our curated list of dividend stocks with a yield 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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