Could Nine Dragons Paper (Holdings) Limited (HKG:2689) be an attractive dividend share to own for the long haul? Investors are often drawn to strong companies with the idea of reinvesting the dividends. If you are hoping to live on the income from dividends, it’s important to be a lot more stringent with your investments than the average punter.
With Nine Dragons Paper (Holdings) yielding 4.5% 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. Some simple analysis can reduce the risk of holding Nine Dragons Paper (Holdings) for its dividend, and we’ll focus on the most important aspects below.
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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. So we need to form a view on if a company’s dividend is sustainable, relative to its net profit after tax. Looking at the data, we can see that 34% of Nine Dragons Paper (Holdings)’s profits were paid out as dividends in the last 12 months. A medium payout ratio strikes a good balance between paying dividends, and keeping enough back to invest in the business. Besides, if reinvestment opportunities dry up, the company has room to increase the dividend.
In addition to comparing dividends against profits, we should inspect whether the company generated enough cash to pay its dividend. Nine Dragons Paper (Holdings)’s cash payout ratio last year was 17%, which is quite low and suggests that the dividend was thoroughly covered by cash flow. It’s positive to see that Nine Dragons Paper (Holdings)’s dividend is covered by both profits and cash flow, since this is generally a sign that the dividend is sustainable, and a lower payout ratio usually suggests a greater margin of safety before the dividend gets cut.
Is Nine Dragons Paper (Holdings)’s Balance Sheet Risky?
As Nine Dragons Paper (Holdings) has a meaningful amount of debt, we need to check its balance sheet to see if the company might have debt risks. A quick check of its financial situation can be done with two ratios: net debt divided by EBITDA (earnings before interest, tax, depreciation and amortisation), and net interest cover. Net debt to EBITDA measures total debt load relative to company earnings (lower = less debt), while net interest cover measures the ability to pay interest on the debt (higher = greater ability to pay interest costs). With net debt of 2.83 times its EBITDA, Nine Dragons Paper (Holdings) has a noticeable amount of debt, although if business stays steady, this may not be overly concerning.
We calculated its interest cover by measuring its earnings before interest and tax (EBIT), and dividing this by the company’s net interest expense. Nine Dragons Paper (Holdings) has EBIT of 7.66 times its interest expense, which we think is adequate.
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 Nine Dragons Paper (Holdings)’s dividend payments. This dividend has been unstable, which we define as having fallen by at least 20% one or more times over this time. During the past ten-year period, the first annual payment was CN¥0.052 in 2009, compared to CN¥0.28 last year. Dividends per share have grown at approximately 18% per year over this time. The growth in dividends has not been linear, but the CAGR is a decent approximation of the rate of change over this time frame.
It’s not great to see that the payment has been cut in the past. We’re generally more wary of companies that have cut their dividend before, as they tend to perform worse in an economic downturn.
Dividend Growth Potential
With a relatively unstable dividend, it’s even more important to evaluate if earnings per share (EPS) are growing – it’s not worth taking the risk on a dividend getting cut, unless you might be rewarded with larger dividends in future. It’s good to see Nine Dragons Paper (Holdings) has been growing its earnings per share at 17% a year over the past five years. A company paying out less than a quarter of its earnings as dividends, and growing earnings at more than 10% per annum, looks to be right in the cusp of its growth phase. At the right price, we might be interested.
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. It’s great to see that Nine Dragons Paper (Holdings) is paying out a low percentage of its earnings and cash flow. Next, earnings growth has been good, but unfortunately the dividend has been cut at least once in the past. All things considered, Nine Dragons Paper (Holdings) looks like a strong prospect. At the right valuation, it could be something special.
Earnings growth generally bodes well for the future value of company dividend payments. See if the 13 Nine Dragons Paper (Holdings) analysts we track are forecasting continued growth with our free report on analyst estimates for the company.
Looking for more high-yielding dividend ideas? Try our curated list of dividend stocks with a yield above 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.