Dividend paying stocks like Parkland Fuel Corporation (TSE:PKI) 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.
While Parkland Fuel’s 2.9% dividend yield is not the highest, we think its lengthy payment history is quite interesting. Some simple analysis can reduce the risk of holding Parkland Fuel for its dividend, and we’ll focus on the most important aspects below.
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. Looking at the data, we can see that 53% of Parkland Fuel’s profits were paid out as dividends in the last 12 months. This is a fairly normal payout ratio among most businesses. It allows a higher dividend to be paid to shareholders, but does limit the capital retained in the business – which could be good or bad.
We also measure dividends paid against a company’s levered free cash flow, to see if enough cash was generated to cover the dividend. Parkland Fuel’s cash payout ratio last year was 19%. Cash flows are typically lumpy, but this looks like an appropriately conservative payout. It’s encouraging to see that the dividend is covered by both profit and cash flow. This generally suggests the dividend is sustainable, as long as earnings don’t drop precipitously.
Is Parkland Fuel’s Balance Sheet Risky?
As Parkland Fuel has a meaningful amount of debt, we need to check its balance sheet to see if the company might have debt risks. A rough way to check this is with these two simple ratios: a) net debt divided by EBITDA (earnings before interest, tax, depreciation and amortisation), and b) net interest cover. Net debt to EBITDA is a measure of a company’s total debt. Net interest cover measures the ability to meet interest payments. Essentially we check that a) the company does not have too much debt, and b) that it can afford to pay the interest. With net debt of 2.63 times its EBITDA, Parkland Fuel’s debt burden is within a normal range for most listed companies.
Net interest cover can be calculated by dividing earnings before interest and tax (EBIT) by the company’s net interest expense. With EBIT of 4.21 times its interest expense, Parkland Fuel’s interest cover is starting to look a bit thin.
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. Parkland Fuel has been paying dividends for a long time, but for the purpose of this analysis, we only examine the past 10 years of payments. While its dividends have not been hugely volatile, its most recent dividend is still meaningfully below where it was ten years ago. During the past ten-year period, the first annual payment was CA$2.03 in 2009, compared to CA$1.19 last year. This works out to be a decline of approximately 5.2% per year over that time.
A shrinking dividend over a ten-year period is not ideal, and we’d be concerned about investing in a dividend stock that lacks a solid record of growing dividends per share.
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 Parkland Fuel has been growing its earnings per share at 11% a year over the past five years. Earnings per share have been growing rapidly, but given that it is paying out more than half of its earnings as dividends, we wonder how Parkland Fuel will keep funding its growth projects in the future.
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 think Parkland Fuel has an acceptable payout ratio and its dividend is well covered by cashflow. Next, growing earnings per share and steady dividend payments is a great combination. Overall we think Parkland Fuel scores well on our analysis. It’s not quite perfect, but we’d definitely be keen to take a closer look.
Companies that are growing earnings tend to be the best dividend stocks over the long term. See what the 9 analysts we track are forecasting for Parkland Fuel for free with public analyst estimates for the company.
We have also put together a list of global stocks with a market capitalisation above $1bn and yielding more 3%.
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 firstname.lastname@example.org. 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.