Should You Buy Salona Cotspin Limited (NSE:SALONA) For Its 1.1% Dividend?

Could Salona Cotspin Limited (NSE:SALONA) 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. Unfortunately, it's common for investors to be enticed in by the seemingly attractive yield, and lose money when the company has to cut its dividend payments.

A 1.1% yield is nothing to get excited about, but investors probably think the long payment history suggests Salona Cotspin has some staying power. Remember though, due to the recent spike in its share price, Salona Cotspin's yield will look lower, even though the market may now be factoring in an improvement in its long-term prospects. Some simple analysis can offer a lot of insights when buying a company for its dividend, and we'll go through this below.

Explore this interactive chart for our latest analysis on Salona Cotspin!

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. Comparing dividend payments to a company's net profit after tax is a simple way of reality-checking whether a dividend is sustainable. Looking at the data, we can see that 37% of Salona Cotspin's profits were paid out as dividends in the last 12 months. This is a medium payout level that leaves enough capital in the business to fund opportunities that might arise, while also rewarding shareholders. Plus, there is room to increase the payout ratio over time.

Another important check we do is to see if the free cash flow generated is sufficient to pay the dividend. Salona Cotspin paid out 216% of its free cash last year. Cash flows can be lumpy, but this dividend was not well covered by cash flow. Paying out such a high percentage of cash flow suggests that the dividend was funded from either cash at bank or by borrowing, neither of which is desirable over the long term. While Salona Cotspin's dividends were covered by the company's reported profits, free cash flow is somewhat more important, so it's not great to see that the company didn't generate enough cash to pay its dividend. Cash is king, as they say, and were Salona Cotspin to repeatedly pay dividends that aren't well covered by cashflow, we would consider this a warning sign.

Is Salona Cotspin's Balance Sheet Risky?

As Salona Cotspin has a meaningful amount of debt, we need to check its balance sheet to see if the company might have debt risks. A rough way to check this is with these two simple ratios: a) net debt divided by EBITDA (earnings before interest, tax, depreciation and amortisation), and b) 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). Salona Cotspin is carrying net debt of 3.25 times its EBITDA, which is getting towards the upper limit of our comfort range on a dividend stock that the investor hopes will endure a wide range of economic circumstances.

Net interest cover can be calculated by dividing earnings before interest and tax (EBIT) by the company's net interest expense. With EBIT of 1.44 times its interest expense, Salona Cotspin's interest cover is starting to look a bit thin.

We update our data on Salona Cotspin every 24 hours, so you can always get our latest analysis of its financial health, 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. Salona Cotspin 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 ten years. During the past ten-year period, the first annual payment was ₹1.00 in 2010, compared to ₹0.60 last year. The dividend has shrunk at around 5.0% a year during that period. Salona Cotspin's dividend hasn't shrunk linearly at 5.0% per annum, but the CAGR is a useful estimate of the historical rate of change.

We struggle to make a case for buying Salona Cotspin for its dividend, given that payments have shrunk over the past ten years.

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. Salona Cotspin's EPS have fallen by approximately 31% per year during the past five years. With this kind of significant decline, we always wonder what has changed in the business. Dividends are about stability, and Salona Cotspin's earnings per share, which support the dividend, have been anything but stable.

Conclusion

To summarise, shareholders should always check that Salona Cotspin's dividends are affordable, that its dividend payments are relatively stable, and that it has decent prospects for growing its earnings and dividend. Salona Cotspin has a low payout ratio, which we like, although it paid out virtually all of its generated cash. Earnings per share are down, and Salona Cotspin's dividend has been cut at least once in the past, which is disappointing. With this information in mind, we think Salona Cotspin may not be an ideal dividend stock.

It's important to note that companies having a consistent dividend policy will generate greater investor confidence than those having an erratic one. Meanwhile, despite the importance of dividend payments, they are not the only factors our readers should know when assessing a company. For example, we've identified 6 warning signs for Salona Cotspin (3 make us uncomfortable!) 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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