Dividend Investors: Don’t Be Too Quick To Buy K-Bro Linen Inc. (TSE:KBL) For Its Upcoming Dividend

K-Bro Linen Inc. (TSE:KBL) stock is about to trade ex-dividend in 4 days time. Ex-dividend means that investors that purchase the stock on or after the 29th of August will not receive this dividend, which will be paid on the 13th of September.

K-Bro Linen’s upcoming dividend is CA$0.10 a share, following on from the last 12 months, when the company distributed a total of CA$1.20 per share to shareholders. Calculating the last year’s worth of payments shows that K-Bro Linen has a trailing yield of 3.1% on the current share price of CA$38.48. Dividends are a major contributor to investment returns for long term holders, but only if the dividend continues to be paid. That’s why we should always check whether the dividend payments appear sustainable, and if the company is growing.

Check out our latest analysis for K-Bro Linen

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. K-Bro Linen paid out 180% of profit in the past year, which we think is typically not sustainable unless there are mitigating characteristics such as unusually strong cash flow or a large cash balance. A useful secondary check can be to evaluate whether K-Bro Linen generated enough free cash flow to afford its dividend. Over the past year it paid out 117% of its free cash flow as dividends, which is uncomfortably high. It’s hard to consistently pay out more cash than you generate without either borrowing or using company cash, so we’d wonder how the company justifies this payout level.

Cash is slightly more important than profit from a dividend perspective, but given K-Bro Linen’s payments were not well covered by either earnings or cash flow, we are concerned about the sustainability of this dividend.

Click here to see the company’s payout ratio, plus analyst estimates of its future dividends.

TSX:KBL Historical Dividend Yield, August 24th 2019
TSX:KBL Historical Dividend Yield, August 24th 2019

Have Earnings And Dividends Been Growing?

Companies with falling earnings are riskier for dividend shareholders. Investors love dividends, so if earnings fall and the dividend is reduced, expect a stock to be sold off heavily at the same time. Readers will understand then, why we’re concerned to see K-Bro Linen’s earnings per share have dropped 15% a year over the past five years. When earnings per share fall, the maximum amount of dividends that can be paid also falls.

We’d also point out that K-Bro Linen issued a meaningful number of new shares in the past year. Trying to grow the dividend while issuing large amounts of new shares reminds us of the ancient Greek tale of Sisyphus – perpetually pushing a boulder uphill.

The main way most investors will assess a company’s dividend prospects is by checking the historical rate of dividend growth. K-Bro Linen has delivered 0.9% dividend growth per year on average over the past 10 years.

The Bottom Line

From a dividend perspective, should investors buy or avoid K-Bro Linen? It’s looking like an unattractive opportunity, with its earnings per share declining, while, paying out an uncomfortably high percentage of both its profits (180%) and cash flow (117%) as dividends. This is a starkly negative combination that often suggests a dividend cut could be in the company’s near future. Bottom line: K-Bro Linen has some unfortunate characteristics that we think could lead to sub-optimal outcomes for dividend investors.

Ever wonder what the future holds for K-Bro Linen? See what the seven analysts we track are forecasting, with this visualisation of its historical and future estimated earnings and cash flow

We wouldn’t recommend just buying the first dividend stock you see, though. Here’s a list of interesting dividend stocks with a greater than 2% yield and an upcoming dividend.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. 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. Simply Wall St has no position in the stocks mentioned. Thank you for reading.