Here's Why We're Wary Of Buying Morgan Advanced Materials' (LON:MGAM) For Its Upcoming Dividend

Regular readers will know that we love our dividends at Simply Wall St, which is why it's exciting to see Morgan Advanced Materials plc (LON:MGAM) is about to trade ex-dividend in the next 4 days. The ex-dividend date is commonly two business days before the record date, which is the cut-off date for shareholders to be present on the company's books to be eligible for a dividend payment. The ex-dividend date is important because any transaction on a stock needs to have been settled before the record date in order to be eligible for a dividend. Meaning, you will need to purchase Morgan Advanced Materials' shares before the 23rd of October to receive the dividend, which will be paid on the 17th of November.

The company's upcoming dividend is UK£0.054 a share, following on from the last 12 months, when the company distributed a total of UK£0.12 per share to shareholders. Last year's total dividend payments show that Morgan Advanced Materials has a trailing yield of 6.1% on the current share price of UK£1.988. Dividends are an important source of income to many shareholders, but the health of the business is crucial to maintaining those dividends. That's why we should always check whether the dividend payments appear sustainable, and if the company is growing.

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Dividends are typically paid out of company income, so if a company pays out more than it earned, its dividend is usually at a higher risk of being cut. Morgan Advanced Materials paid out 124% of profit in the past year, which we think is typically not sustainable unless there are mitigating characteristics such as unusually strong cash flow or a large cash balance. A useful secondary check can be to evaluate whether Morgan Advanced Materials generated enough free cash flow to afford its dividend. Over the past year it paid out 127% of its free cash flow as dividends, which is uncomfortably high. We're curious about why the company paid out more cash than it generated last year, since this can be one of the early signs that a dividend may be unsustainable.

Cash is slightly more important than profit from a dividend perspective, but given Morgan Advanced Materials's payments were not well covered by either earnings or cash flow, we are concerned about the sustainability of this dividend.

View our latest analysis for Morgan Advanced Materials

Click here to see the company's payout ratio, plus analyst estimates of its future dividends.

Have Earnings And Dividends Been Growing?

When earnings decline, dividend companies become much harder to analyse and own safely. Investors love dividends, so if earnings fall and the dividend is reduced, expect a stock to be sold off heavily at the same time. With that in mind, we're discomforted by Morgan Advanced Materials's 17% per annum decline in earnings in the past five years. Such a sharp decline casts doubt on the future sustainability of the dividend.

Another key way to measure a company's dividend prospects is by measuring its historical rate of dividend growth. In the past 10 years, Morgan Advanced Materials has increased its dividend at approximately 1.1% a year on average.

Final Takeaway

Has Morgan Advanced Materials got what it takes to maintain its dividend payments? Not only are earnings per share declining, but Morgan Advanced Materials is paying out an uncomfortably high percentage of both its earnings and cashflow to shareholders as dividends. This is a clearly suboptimal combination that usually suggests the dividend is at risk of being cut. If not now, then perhaps in the future. It's not an attractive combination from a dividend perspective, and we're inclined to pass on this one for the time being.

Having said that, if you're looking at this stock without much concern for the dividend, you should still be familiar of the risks involved with Morgan Advanced Materials. We've identified 4 warning signs with Morgan Advanced Materials (at least 1 which is significant), and understanding them should be part of your investment process.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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.