Stock Analysis

Is Hammond Power Solutions Inc. (TSE:HPS.A) An Attractive Dividend Stock?

TSX:HPS.A
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Today we'll take a closer look at Hammond Power Solutions Inc. (TSE:HPS.A) from a dividend investor's perspective. Owning a strong business and reinvesting the dividends is widely seen as an attractive way of growing your wealth. Yet sometimes, investors buy a stock for its dividend and lose money because the share price falls by more than they earned in dividend payments.

With Hammond Power Solutions yielding 3.6% and having paid a dividend for over 10 years, many investors likely find the company quite interesting. We'd guess that plenty of investors have purchased it for the income. When buying stocks for their dividends, you should always run through the checks below, to see if the dividend looks sustainable.

Explore this interactive chart for our latest analysis on Hammond Power Solutions!

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TSX:HPS.A Historic Dividend March 25th 2021

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. As a result, we should always investigate whether a company can afford its dividend, measured as a percentage of a company's net income after tax. In the last year, Hammond Power Solutions paid out 27% of its profit as dividends. A medium payout ratio strikes a good balance between paying dividends, and keeping enough back to invest in the business. Besides, if reinvestment opportunities dry up, the company has room to increase the dividend.

In addition to comparing dividends against profits, we should inspect whether the company generated enough cash to pay its dividend. Hammond Power Solutions paid out 15% of its free cash flow as dividends last year, which is conservative and suggests the dividend is sustainable. It's positive to see that Hammond Power Solutions' 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 Hammond Power Solutions' financial position 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. Hammond Power Solutions has been paying dividends for a long time, but for the purpose of this analysis, we only examine the past 10 years of 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 CA$0.1 in 2011, compared to CA$0.3 last year. This works out to be a compound annual growth rate (CAGR) of approximately 10% a year over that time.

Dividends have been growing pretty quickly, and even more impressively, they haven't experienced any notable falls during this period.

Dividend Growth Potential

Dividend payments have been consistent over the past few years, but we should always check if earnings per share (EPS) are growing, as this will help maintain the purchasing power of the dividend. It's good to see Hammond Power Solutions has been growing its earnings per share at 29% a year over the past five years. With high earnings per share growth in recent times and a modest payout ratio, we think this is an attractive combination if earnings can be reinvested to generate further growth.

Conclusion

When we look at a dividend stock, we need to form a judgement on whether the dividend will grow, if the company is able to maintain it in a wide range of economic circumstances, and if the dividend payout is sustainable. First, we like that the company's dividend payments appear well covered, although the retained capital also needs to be effectively reinvested. We like that it has been delivering solid improvement in its earnings per share, and relatively consistent dividend payments. Hammond Power Solutions has met all of our criteria, including having strong cash flow that covers the dividend. We definitely think it would be worthwhile looking closer.

Companies possessing a stable dividend policy will likely enjoy greater investor interest than those suffering from a more inconsistent approach. Still, investors need to consider a host of other factors, apart from dividend payments, when analysing a company. As an example, we've identified 1 warning sign for Hammond Power Solutions that you should be aware of before investing.

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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