Tesco PLC's (LON:TSCO) dividend is being reduced to UK£0.059 on the 2nd of July. This means the annual payment is 27% of the current stock price, which is above the average for the industry.
Tesco Is Paying Out More Than It Is Earning
If the payments aren't sustainable, a high yield for a few years won't matter that much. Prior to this announcement, the dividend made up 123% of earnings, and the company was generating negative free cash flows. This high of a dividend payment could start to put pressure on the balance sheet in the future.
Earnings per share is forecast to rise by 84.0% over the next year. If the dividend continues on its recent course, the company could be paying out several times what it earns in the next 12 months, which could start applying pressure to the balance sheet.
Although the company has a long dividend history, it has been cut at least once in the last 10 years. The dividend has gone from UK£0.18 in 2011 to the most recent annual payment of UK£0.12. This works out to be a decline of approximately 4.5% per year over that time. A company that decreases its dividend over time generally isn't what we are looking for.
Tesco Might Find It Hard To Grow Its Dividend
Given that the dividend has been cut in the past, we need to check if earnings are growing and if that might lead to stronger dividends in the future. Tesco has seen EPS rising for the last five years, at 18% per annum. However, the company isn't reinvesting a lot back into the business, so we would expect the growth rate to slow down somewhat in the future.
The Dividend Could Prove To Be Unreliable
Overall, the dividend looks like it may have been a bit high, which explains why it has now been cut. Strong earnings growth means Tesco has the potential to be a good dividend stock in the future, despite the current payments being at elevated levels. We would be a touch cautious of relying on this stock primarily for the dividend income.
Investors generally tend to favour companies with a consistent, stable dividend policy as opposed to those operating an irregular one. However, there are other things to consider for investors when analysing stock performance. Just as an example, we've come across 4 warning signs for Tesco you should be aware of, and 1 of them can't be ignored. Looking for more high-yielding dividend ideas? Try our curated list of strong dividend payers.
When trading Tesco or any other investment, use the platform considered by many to be the Professional's Gateway to the Worlds Market, Interactive Brokers. You get the lowest-cost* trading on stocks, options, futures, forex, bonds and funds worldwide from a single integrated account.
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.
*Interactive Brokers Rated Lowest Cost Broker by StockBrokers.com Annual Online Review 2020
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.