Do Investors Have Good Reason To Be Wary Of Dr. Hönle AG's (ETR:HNL) 1.0% Dividend Yield?

Today we'll take a closer look at Dr. Hönle AG (ETR:HNL) 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.

A 1.0% yield is nothing to get excited about, but investors probably think the long payment history suggests Dr. Hönle has some staying power. Some simple analysis can reduce the risk of holding Dr. Hönle for its dividend, and we'll focus on the most important aspects below.

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Payout ratios

Dividends are typically paid from company earnings. If a company pays more in dividends than it earned, 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. Dr. Hönle paid out 59% of its profit as dividends, over the trailing twelve month period. A payout ratio above 50% generally implies a business is reaching maturity, although it is still possible to reinvest in the business or increase the dividend over time.

In addition to comparing dividends against profits, we should inspect whether the company generated enough cash to pay its dividend. Unfortunately, while Dr. Hönle pays a dividend, it also reported negative free cash flow last year. While there may be a good reason for this, it's not ideal from a dividend perspective.

Consider getting our latest analysis on Dr. Hönle's financial position here.

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. Dr. Hönle has been paying dividends for a long time, but for the purpose of this analysis, we only examine the past 10 years of payments. This dividend has been unstable, which we define as having been cut one or more times over this time. During the past 10-year period, the first annual payment was €0.3 in 2011, compared to €0.5 last year. This works out to be a compound annual growth rate (CAGR) of approximately 5.2% a year over that time. The dividends haven't grown at precisely 5.2% every year, but this is a useful way to average out the historical rate of growth.

A reasonable rate of dividend growth is good to see, but we're wary that the dividend history is not as solid as we'd like, having been cut at least once.

Dividend Growth Potential

With a relatively unstable dividend, it's even more important to evaluate if earnings per share (EPS) are growing - it's not worth taking the risk on a dividend getting cut, unless you might be rewarded with larger dividends in future. Dr. Hönle's earnings per share have shrunk at 15% a year over the past five years. A sharp decline in earnings per share is not great from from a dividend perspective, as even conservative payout ratios can come under pressure if earnings fall far enough.

We'd also point out that Dr. Hönle issued a meaningful number of new shares in the past year. Regularly issuing new shares can be detrimental - it's hard to grow dividends per share when new shares are regularly being created.

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. First, we think Dr. Hönle has an acceptable payout ratio, although its dividend was not well covered by cashflow. Earnings per share have been falling, and the company has cut its dividend at least once in the past. From a dividend perspective, this is a cause for concern. Using these criteria, Dr. Hönle looks quite suboptimal from a dividend investment perspective.

Market movements attest to how highly valued a consistent dividend policy is compared to one which is more unpredictable. Meanwhile, despite the importance of dividend payments, they are not the only factors our readers should know when assessing a company. For example, we've identified 5 warning signs for Dr. Hönle (2 are significant!) that you should be aware of before investing.

We have also put together a list of global stocks with a market capitalisation above $1bn and yielding more 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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