Is Shandong Xinhua Pharmaceutical Company Limited (HKG:719) A Smart Pick For Income Investors?

Today we'll take a closer look at Shandong Xinhua Pharmaceutical Company Limited (HKG:719) from a dividend investor's perspective. Owning a strong business and reinvesting the dividends is widely seen as an attractive way of growing your wealth. If you are hoping to live on your dividends, it's important to be more stringent with your investments than the average punter. Regular readers know we like to apply the same approach to each dividend stock, and we hope you'll find our analysis useful.

In this case, Shandong Xinhua Pharmaceutical likely looks attractive to investors, given its 4.1% dividend yield and a payment history of over ten years. We'd guess that plenty of investors have purchased it for the income. Some simple analysis can reduce the risk of holding Shandong Xinhua Pharmaceutical for its dividend, and we'll focus on the most important aspects below.

Click the interactive chart for our full dividend analysis

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. As a result, we should always investigate whether a company can afford its dividend, measured as a percentage of a company's net income after tax. Shandong Xinhua Pharmaceutical paid out 25% of its profit as dividends, over the trailing twelve month period. We'd say its dividends are thoroughly covered by earnings.

In addition to comparing dividends against profits, we should inspect whether the company generated enough cash to pay its dividend. Shandong Xinhua Pharmaceutical paid out 63% of its cash flow as dividends last year, which is within a reasonable range for the average corporation. It's positive to see that Shandong Xinhua Pharmaceutical'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.

Remember, you can always get a snapshot of Shandong Xinhua Pharmaceutical's latest financial position, by checking our visualisation of its financial health.

Dividend Volatility

Before buying a stock for its income, we want to see if the dividends have been stable in the past, and if the company has a track record of maintaining its dividend. Shandong Xinhua Pharmaceutical has been paying dividends for a long time, but for the purpose of this analysis, we only examine the past 10 years of payments. Its dividend payments have declined on at least one occasion over the past 10 years. During the past 10-year period, the first annual payment was CN¥0.04 in 2010, compared to CN¥0.1 last year. This works out to be a compound annual growth rate (CAGR) of approximately 12% a year over that 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.

So, its dividends have grown at a rapid rate over this time, but payments have been cut in the past. The stock may still be worth considering as part of a diversified dividend portfolio.

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. Strong earnings per share (EPS) growth might encourage our interest in the company despite fluctuating dividends, which is why it's great to see Shandong Xinhua Pharmaceutical has grown its earnings per share at 35% per annum over the past five years. The company is only paying out a fraction of its earnings as dividends, and in the past been able to use the retained earnings to grow its profits rapidly - an ideal combination.

Conclusion

To summarise, shareholders should always check that Shandong Xinhua Pharmaceutical's dividends are affordable, that its dividend payments are relatively stable, and that it has decent prospects for growing its earnings and dividend. Above all, we're glad to see that Shandong Xinhua Pharmaceutical pays out a low fraction of its earnings and, while it paid a higher percentage of cashflow, this also was within a normal range. We were also glad to see it growing earnings, but it was concerning to see the dividend has been cut at least once in the past. Overall we think Shandong Xinhua Pharmaceutical is an interesting dividend stock, although it could be better.

Market movements attest to how highly valued a consistent dividend policy is compared to one which is more unpredictable. However, there are other things to consider for investors when analysing stock performance. As an example, we've identified 2 warning signs for Shandong Xinhua Pharmaceutical 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 dividend stocks yielding above 3%.

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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.
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