Here's Why We're Wary Of Buying Renishaw's (LON:RSW) For Its Upcoming Dividend

Some investors rely on dividends for growing their wealth, and if you're one of those dividend sleuths, you might be intrigued to know that Renishaw plc (LON:RSW) is about to go ex-dividend in just 4 days. Typically, the ex-dividend date is one business day before the record date which is the date on which a company determines the shareholders eligible to receive a dividend. 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. Therefore, if you purchase Renishaw's shares on or after the 31st of October, you won't be eligible to receive the dividend, when it is paid on the 5th of December.

The company's next dividend payment will be UK£0.594 per share. Last year, in total, the company distributed UK£0.76 to shareholders. Calculating the last year's worth of payments shows that Renishaw has a trailing yield of 2.3% on the current share price of UK£33.25. We love seeing companies pay a dividend, but it's also important to be sure that laying the golden eggs isn't going to kill our golden goose! So we need to investigate whether Renishaw can afford its dividend, and if the dividend could grow.

View our latest analysis for Renishaw

If a company pays out more in dividends than it earned, then the dividend might become unsustainable - hardly an ideal situation. Renishaw is paying out an acceptable 57% of its profit, a common payout level among most companies. That said, even highly profitable companies sometimes might not generate enough cash to pay the dividend, which is why we should always check if the dividend is covered by cash flow. Renishaw paid out more free cash flow than it generated - 113%, to be precise - last year, which we think is concerningly high. It's hard to consistently pay out more cash than you generate without either borrowing or using company cash, so we'd wonder how the company justifies this payout level.

While Renishaw's dividends were covered by the company's reported profits, cash is somewhat more important, so it's not great to see that the company didn't generate enough cash to pay its dividend. Were this to happen repeatedly, this would be a risk to Renishaw's ability to maintain its dividend.

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

Have Earnings And Dividends Been Growing?

Stocks with flat earnings can still be attractive dividend payers, but it is important to be more conservative with your approach and demand a greater margin for safety when it comes to dividend sustainability. If earnings fall far enough, the company could be forced to cut its dividend. That explains why we're not overly excited about Renishaw's flat earnings over the past five years. Better than seeing them fall off a cliff, for sure, but the best dividend stocks grow their earnings meaningfully over the long run. Earnings have been growing somewhat, but we're concerned dividend payments consumed most of the company's cash flow over the past year.

The main way most investors will assess a company's dividend prospects is by checking the historical rate of dividend growth. Renishaw has delivered 6.3% dividend growth per year on average over the past 10 years.

Final Takeaway

From a dividend perspective, should investors buy or avoid Renishaw? In addition to earnings being flat, Renishaw is paying out a reasonable percentage of its earnings as profits. However, the dividend was not well covered by free cash flow. It's not that we think Renishaw is a bad company, but these characteristics don't generally lead to outstanding dividend performance.

With that being said, if you're still considering Renishaw as an investment, you'll find it beneficial to know what risks this stock is facing. Our analysis shows 1 warning sign for Renishaw and you should be aware of this before buying any shares.

If you're in the market for strong dividend payers, we recommend checking our selection of top 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.