Should You Buy thyssenkrupp AG (ETR:TKA) For Its 1.3% Dividend?

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Dividend paying stocks like thyssenkrupp AG (ETR:TKA) 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. Unfortunately, it's common for investors to be enticed in by the seemingly attractive yield, and lose money when the company has to cut its dividend payments.

With a 1.3% yield and a nine-year payment history, investors probably think thyssenkrupp looks like a reliable dividend stock. A 1.3% yield is not inspiring, but the longer payment history has some appeal. 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 thyssenkrupp!

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. Although thyssenkrupp pays a dividend, it was loss-making during the past year. When a company recently reported a loss, we should investigate if its cash flows covered the dividend.

With a loss in the last year, it becomes even more important to evaluate if the company is generating enough cash flow to pay its dividend and meet its obligations. Last year, thyssenkrupp paid a dividend while reporting negative free cash flow. While there may be an explanation, we think this behaviour is generally not sustainable.

Is thyssenkrupp's Balance Sheet Risky?

Given thyssenkrupp is paying a dividend but reported a loss over the past year, we need to check its balance sheet for signs of financial distress. 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 on debt. Essentially we check that a) a company does not have too much debt, and b) that it can afford to pay the interest. thyssenkrupp has net debt of more than 3x its EBITDA, which is getting towards the limit of most investors' comfort zones. Judicious use of debt can enhance shareholder returns, but also adds to the risk if something goes awry.

Net interest cover can be calculated by dividing earnings before interest and tax (EBIT) by the company's net interest expense. Interest cover of less than 5x its interest expense is starting to become a concern for thyssenkrupp, and be aware that lenders may place additional restrictions on the company as well.

Remember, you can always get a snapshot of thyssenkrupp's latest financial position, by checking our visualisation of its financial health.

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. The first recorded dividend for thyssenkrupp, in the last decade, was nine years ago. The dividend has been quite stable over the past nine years, which is great to see - although we usually like to see the dividend maintained for a decade before giving it full marks, though. During the past nine-year period, the first annual payment was €0.30 in 2010, compared to €0.15 last year. This works out to be a decline of approximately -7.4% per year over that time.

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. Growing EPS can help maintain or increase the purchasing power of the dividend over the long run. It's good to see thyssenkrupp has been growing its earnings per share at 41% a year over the past 5 years.

We'd also point out that thyssenkrupp issued a meaningful number of new shares in the past year. Trying to grow the dividend when issuing new shares reminds us of the ancient Greek tale of Sisyphus - perpetually pushing a boulder uphill. Companies that consistently issue new shares are often suboptimal from a dividend perspective.

Conclusion

To summarise, shareholders should always check that thyssenkrupp's dividends are affordable, that its dividend payments are relatively stable, and that it has decent prospects for growing its earnings and dividend. It's a concern to see that the company paid out such a high percentage of its earnings and cashflow as dividends. Next, earnings growth has been good, but unfortunately the company has not been paying dividends as long as we'd like. With this information in mind, we think thyssenkrupp may not be an ideal dividend stock.

Earnings growth generally bodes well for the future value of company dividend payments. See if the 15 thyssenkrupp analysts we track are forecasting continued growth with our free report on 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.