Dividend paying stocks like Scandinavian Tobacco Group A/S (CPH:STG) 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. 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 five-year payment history and a 5.4% yield, many investors probably find Scandinavian Tobacco Group intriguing. It sure looks interesting on these metrics - but there's always more to the story. Some simple analysis can offer a lot of insights when buying a company for its dividend, and we'll go through this below.
Companies (usually) pay dividends out of their earnings. If a company is paying more than it earns, the dividend might have to be cut. So we need to form a view on if a company's dividend is sustainable, relative to its net profit after tax. In the last year, Scandinavian Tobacco Group paid out 67% of its profit as dividends. 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.
In addition to comparing dividends against profits, we should inspect whether the company generated enough cash to pay its dividend. Of the free cash flow it generated last year, Scandinavian Tobacco Group paid out 40% as dividends, suggesting the dividend is affordable. 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.
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. Scandinavian Tobacco Group has been paying a dividend for the past five years. During the past five-year period, the first annual payment was kr.5.0 in 2016, compared to kr.6.1 last year. This works out to be a compound annual growth rate (CAGR) of approximately 4.1% a year over that time.
We like that the dividend hasn't been shrinking. However we're conscious that the company hasn't got an overly long track record of dividend payments yet, which makes us wary of relying on its dividend income.
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. Scandinavian Tobacco Group has grown its earnings per share at 6.3% per annum over the past five years. Earnings per share are growing at an acceptable rate, although the company is paying out more than half of its profits, which we think could constrain its ability to reinvest in its business.
To summarise, shareholders should always check that Scandinavian Tobacco Group'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 think Scandinavian Tobacco Group has an acceptable payout ratio and its dividend is well covered by cashflow. Second, earnings growth has been ordinary, and its history of dividend payments is shorter than we'd like. Ultimately, Scandinavian Tobacco Group comes up short on our dividend analysis. It's not that we think it is a bad company - just that there are likely more appealing dividend prospects out there on this analysis.
Investors generally tend to favour companies with a consistent, stable dividend policy as opposed to those operating an irregular one. Still, investors need to consider a host of other factors, apart from dividend payments, when analysing a company. As an example, we've identified 2 warning signs for Scandinavian Tobacco Group that you should be aware of before investing.
Looking for more high-yielding dividend ideas? Try our curated list of dividend stocks with a yield above 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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