British American Tobacco (LON:BATS) Is Paying Out A Larger Dividend Than Last Year

British American Tobacco p.l.c.'s (LON:BATS) dividend will be increasing from last year's payment of the same period to £0.5888 on 2nd of May. This makes the dividend yield 9.7%, which is above the industry average.

See our latest analysis for British American Tobacco

British American Tobacco's Earnings Easily Cover The Distributions

Impressive dividend yields are good, but this doesn't matter much if the payments can't be sustained. While British American Tobacco is not profitable, it is paying out less than 75% of its free cash flow, which means that there is plenty left over for reinvestment into the business. We generally think that cash flow is more important than accounting measures of profit, so we are fairly comfortable with the dividend at this level.

Looking forward, earnings per share is forecast to rise exponentially over the next year. If the dividend continues along recent trends, we estimate the payout ratio will be 16%, so there isn't too much pressure on the dividend.

Dividend Volatility

While the company has been paying a dividend for a long time, it has cut the dividend at least once in the last 10 years. The dividend has gone from an annual total of £1.35 in 2014 to the most recent total annual payment of £2.36. This works out to be a compound annual growth rate (CAGR) of approximately 5.7% a year over that time. We have seen cuts in the past, so while the growth looks promising we would be a little bit cautious about its track record.

Dividend Growth Potential Is Shaky

Growing earnings per share could be a mitigating factor when considering the past fluctuations in the dividend. Earnings per share has been sinking by 20% over the last five years. Such rapid declines definitely have the potential to constrain dividend payments if the trend continues into the future. Over the next year, however, earnings are actually predicted to rise, but we would still be cautious until a track record of earnings growth can be built.

The Dividend Could Prove To Be Unreliable

Overall, we always like to see the dividend being raised, but we don't think British American Tobacco will make a great income stock. The company is generating plenty of cash, which could maintain the dividend for a while, but the track record hasn't been great. We don't think British American Tobacco is a great stock to add to your portfolio if income is your focus.

It's important to note that companies having a consistent dividend policy will generate greater investor confidence than those having an erratic one. At the same time, there are other factors our readers should be conscious of before pouring capital into a stock. As an example, we've identified 2 warning signs for British American Tobacco that you should be aware of before investing. If you are a dividend investor, you might also want to look at our curated list of high yield dividend stocks.

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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.