Three Things You Should Check Before Buying JBM Auto Limited (NSE:JBMA) For Its Dividend

Dividend paying stocks like JBM Auto Limited (NSE:JBMA) tend to be popular with investors, and for good reason - some research suggests a significant amount of all stock market returns come from reinvested dividends. Yet sometimes, investors buy a stock for its dividend and lose money because the share price falls by more than they earned in dividend payments.

While JBM Auto's 0.4% dividend yield is not the highest, we think its lengthy payment history is quite interesting. Remember though, due to the recent spike in its share price, JBM Auto's yield will look lower, even though the market may now be factoring in an improvement in its long-term prospects. Before you buy any stock for its dividend however, you should always remember Warren Buffett's two rules: 1) Don't lose money, and 2) Remember rule #1. We'll run through some checks below to help with this.

Explore this interactive chart for our latest analysis on JBM Auto!

Payout ratios

Dividends are typically paid from company earnings. If a company pays more in dividends than it earned, 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. JBM Auto paid out 26% of its profit as dividends, over the trailing twelve month period. This is a middling range that strikes a nice balance between paying dividends to shareholders, and retaining enough earnings to invest in future growth. Besides, if reinvestment opportunities dry up, the company has room to increase the dividend.

Another important check we do is to see if the free cash flow generated is sufficient to pay the dividend. JBM Auto paid out 21% of its free cash flow as dividends last year, which is conservative and suggests the dividend is sustainable. It's positive to see that JBM Auto'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.

Consider getting our latest analysis on JBM Auto's financial position here.

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. For the purpose of this article, we only scrutinise the last decade of JBM Auto's dividend payments. The dividend has been cut on at least one occasion historically. During the past 10-year period, the first annual payment was ₹0.4 in 2011, compared to ₹1.8 last year. Dividends per share have grown at approximately 17% per year over this time. JBM Auto's dividend payments have fluctuated, so it hasn't grown 17% every year, but the CAGR is a useful rule of thumb for approximating the historical growth.

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 see if earnings per share (EPS) are growing. Why take the risk of a dividend getting cut, unless there's a good chance of bigger dividends in future? JBM Auto's earnings per share have shrunk at 13% a year over the past five years. With this kind of significant decline, we always wonder what has changed in the business. Dividends are about stability, and JBM Auto's earnings per share, which support the dividend, have been anything but stable.

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. First, we like that the company's dividend payments appear well covered, although the retained capital also needs to be effectively reinvested. Earnings per share are down, and JBM Auto's dividend has been cut at least once in the past, which is disappointing. While we're not hugely bearish on it, overall we think there are potentially better dividend stocks than JBM Auto out there.

Market movements attest to how highly valued a consistent dividend policy is compared to one which is more unpredictable. Still, investors need to consider a host of other factors, apart from dividend payments, when analysing a company. Just as an example, we've come accross 3 warning signs for JBM Auto you should be aware of, and 1 of them makes us a bit uncomfortable.

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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