Is Continental Aktiengesellschaft (FRA:CON) A Great Dividend Stock?

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Could Continental Aktiengesellschaft (FRA:CON) 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. If you are hoping to live on the income from dividends, it’s important to be a lot more stringent with your investments than the average punter.

With a seven-year payment history and a 3.9% yield, many investors probably find Continental intriguing. We’d agree the yield does look enticing. Some simple analysis can offer a lot of insights when buying a company for its dividend, and we’ll go through this below.

Explore this interactive chart for our latest analysis on Continental!

DB:CON Historical Dividend Yield, July 4th 2019
DB:CON Historical Dividend Yield, July 4th 2019

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. So we need to form a view on if a company’s dividend is sustainable, relative to its net profit after tax. Continental paid out 35% of its profit as dividends, over the trailing twelve month period. A medium payout ratio strikes a good balance between paying dividends, and keeping enough back to invest in the business. One of the risks is that management reinvests the retained capital poorly instead of paying a higher dividend.

We also measure dividends paid against a company’s levered free cash flow, to see if enough cash was generated to cover the dividend. Continental paid out 101% of its free cash last year. Cash flows can be lumpy, but this dividend was not well covered by cash flow. Continental 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 Continental to repeatedly pay dividends that aren’t well covered by cashflow, we would consider this a warning sign.

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. Looking at the data, we can see that Continental has been paying a dividend for the past seven years. During the past seven-year period, the first annual payment was €1.50 in 2012, compared to €4.75 last year. This works out to be a compound annual growth rate (CAGR) of approximately 18% a year over that time.

Continental has been growing its dividend quite rapidly, which is exciting. However, the short payment history makes us question whether this performance will persist across a full market cycle.

Dividend Growth Potential

Examining whether the dividend is affordable and stable is important. However, it’s also important to assess if earnings per share (EPS) are growing. Over the long term, dividends need to grow at or above the rate of inflation, in order to maintain the recipient’s purchasing power. Earnings have grown at around 7.3% a year for the past five years, which is better than seeing them shrink! Earnings per share have been growing at a credible rate. What’s more, the payout ratio is reasonable and provides some protection to the dividend, or even the potential to increase it.

Conclusion

To summarise, shareholders should always check that Continental’s dividends are affordable, that its dividend payments are relatively stable, and that it has decent prospects for growing its earnings and dividend. First, we like Continental’s low dividend payout ratio, although we’re a bit concerned that it paid out a substantially higher percentage of its free cash flow. Unfortunately, earnings growth has also been mediocre, and we think it has not been paying dividends long enough to demonstrate resilience across economic cycles. While we’re not hugely bearish on it, overall we think there are potentially better dividend stocks than Continental out there.

Companies that are growing earnings tend to be the best dividend stocks over the long term. See what the 24 analysts we track are forecasting for Continental for free with public analyst estimates for the company.

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