Are Dividend Investors Making A Mistake With The Alumasc Group plc (LON:ALU)?

By
Simply Wall St
Published
April 23, 2019
AIM:ALU

Is The Alumasc Group plc (LON:ALU) a good dividend stock? How would you know? A dividend paying company with growing earnings can be rewarding in the long term. If you are hoping to live on your dividends, it's important to be more stringent with your investments than the average punter. Regular readers know we like to apply the same approach to each dividend stock, and we hope you'll find our analysis useful.

With Alumasc Group yielding 8.0% and having paid a dividend for over 10 years, many investors likely find the company quite interesting. It would not be a surprise to discover that many investors buy it for the dividends. Before you buy any stock for its dividend however, you should always remember Warren Buffett's two rules: 1) Don't lose money, and 2) Remember rule #1. We'll run through some checks below to help with this.

Click the interactive chart for our full dividend analysis
LSE:ALU Historical Dividend Yield, April 23rd 2019
LSE:ALU Historical Dividend Yield, April 23rd 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. 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 123% of Alumasc Group's profits were paid out as dividends in the last 12 months. A payout ratio above 100% is definitely an item of concern, unless there are some other circumstances that would justify it.

In addition to comparing dividends against profits, we should inspect whether the company generated enough cash to pay its dividend. Alumasc Group paid out 70% of its free cash flow last year, which is acceptable, but is starting to limit the amount of earnings that can be reinvested into the business.

Is Alumasc Group's Balance Sheet Risky?

As Alumasc Group's dividend was not well covered by earnings, 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 measures a company's total debt load relative to its earnings (lower = less debt), while net interest cover measures the company's ability to pay the interest on its debt (higher = greater ability to pay interest costs). With net debt of 0.059 times its earnings before interest, tax, depreciation and amortisation (EBITDA), Alumasc Group has an acceptable level of debt.

Net interest cover can be calculated by dividing earnings before interest and tax (EBIT) by the company's net interest expense. Net interest cover of 12.00 times its interest expense appears reasonable for Alumasc Group, although we're conscious that even high interest cover doesn't make a company bulletproof.

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

Dividend Volatility

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. For the purpose of this article, we only scrutinise the last decade of Alumasc Group's dividend payments. Its dividend payments have fallen by 20% or more on at least one occasion over the past ten years. During the past ten-year period, the first annual payment was UK£0.10 in 2009, compared to UK£0.073 last year. This works out to be a decline of approximately -3.0% per year over that time. Alumasc Group's dividend has been cut sharply at least once, so it hasn't fallen by -3.0% every year, but this is a decent approximation of the long term change.

Dividend Growth Potential

With a relatively unstable dividend, it's even more important to see if earnings per share (EPS) are growing. Why take the risk of a dividend getting cut, unless there's a good chance of bigger dividends in future? Earnings have grown at around 2.5% a year for the past five years, which is better than seeing them shrink! Still, the company has struggled to grow its EPS, and currently pays out 123% of its earnings. Limited recent earnings growth and a high payout ratio makes it hard for us to envision strong future dividend growth, unless the company should have substantial pricing power or some form of competitive advantage.

Conclusion

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. We're not keen on the fact that Alumasc Group paid out such a high percentage of its income, although its cashflow is in better shape. Unfortunately, earnings growth has also been mediocre, and the company has cut its dividend at least once in the past. With this information in mind, we think Alumasc Group may not be an ideal dividend stock.

See if management have put their money where their mouth is, by checking insider shareholdings in Alumasc Group stock.

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 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.

Promoted
If you're looking to trade Alumasc Group, open an account with the lowest-cost* platform trusted by professionals, Interactive Brokers. Their clients from over 200 countries and territories trade stocks, options, futures, forex, bonds and funds worldwide from a single integrated account.

Discounted cash flow calculation for every stock

Simply Wall St does a detailed discounted cash flow calculation every 6 hours for every stock on the market, so if you want to find the intrinsic value of any company just search here. It’s FREE.


Simply Wall St character - Warren

Simply Wall St

Simply Wall St is a financial technology startup focused on providing unbiased, high-quality research coverage on every listed company in the world. Our research team consists of equity analysts with a public, market-beating track record. Learn more about the team behind Simply Wall St.