Key Things To Consider Before Buying China Harmony Auto Holding Limited (HKG:3836) For Its Dividend

Today we'll take a closer look at China Harmony Auto Holding Limited (HKG:3836) 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.

Investors might not know much about China Harmony Auto Holding's dividend prospects, even though it has been paying dividends for the last seven years and offers a 2.1% yield. A 2.1% yield is not inspiring, but the longer payment history has some appeal. Some simple analysis can reduce the risk of holding China Harmony Auto Holding 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 25% of China Harmony Auto Holding's profits were paid out as dividends in the last 12 months. We like this low payout ratio, because it implies the dividend is well covered and leaves ample opportunity for reinvestment.

We also measure dividends paid against a company's levered free cash flow, to see if enough cash was generated to cover the dividend. China Harmony Auto Holding paid out 17% of its free cash flow as dividends last year, which is conservative and suggests the dividend is sustainable. It's positive to see that China Harmony Auto Holding'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.

We update our data on China Harmony Auto Holding every 24 hours, so you can always get our latest analysis of its financial health, here.

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. Looking at the data, we can see that China Harmony Auto Holding has been paying a dividend for the past seven years. It's good to see that China Harmony Auto Holding has been paying a dividend for a number of years. However, the dividend has been cut at least once in the past, and we're concerned that what has been cut once, could be cut again. During the past seven-year period, the first annual payment was CN¥0.06 in 2014, compared to CN¥0.07 last year. Its dividends have grown at less than 1% per annum over this time frame.

Modest growth in the dividend is good to see, but we think this is offset by historical cuts to the payments. It is hard to live on a dividend income if the company's earnings are not consistent.

Dividend Growth Potential

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. In the last five years, China Harmony Auto Holding's earnings per share have shrunk at approximately 7.5% per annum. If earnings continue to decline, the dividend may come under pressure. Every investor should make an assessment of whether the company is taking steps to stabilise the situation.

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 China Harmony Auto Holding is paying out a low percentage of its earnings and cash flow. Earnings per share are down, and China Harmony Auto Holding's dividend has been cut at least once in the past, which is disappointing. In sum, we find it hard to get excited about China Harmony Auto Holding from a dividend perspective. It's not that we think it's a bad business; just that there are other companies that perform better on these criteria.

Companies possessing a stable dividend policy will likely enjoy greater investor interest than those suffering from a more inconsistent approach. Still, investors need to consider a host of other factors, apart from dividend payments, when analysing a company. As an example, we've identified 2 warning signs for China Harmony Auto Holding that you should be aware of before investing.

Looking for more high-yielding dividend ideas? Try our curated list of dividend stocks with a yield 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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