What To Know Before Buying Supreme Engineering Limited (NSE:SUPREMEENG) For Its Dividend

Dividend paying stocks like Supreme Engineering Limited (NSE:SUPREMEENG) 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. On the other hand, investors have been known to buy a stock because of its yield, and then lose money if the company's dividend doesn't live up to expectations.

With only a two-year payment history, and a 1.8% yield, investors probably think Supreme Engineering is not much of a dividend stock. While it may not look like much, if earnings are growing it could become quite interesting. There are a few simple ways to reduce the risks of buying Supreme Engineering for its dividend, and we'll go through these below.

Explore this interactive chart for our latest analysis on Supreme Engineering!

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. 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. Supreme Engineering paid out 69% of its profit as dividends, over the trailing twelve month period. A payout ratio above 50% generally implies a business is reaching maturity, although it is still possible to reinvest in the business or increase the dividend over time.

Another important check we do is to see if the free cash flow generated is sufficient to pay the dividend. Supreme Engineering paid out 23% of its free cash flow as dividends last year, which is conservative and suggests the dividend is sustainable. It's positive to see that Supreme Engineering'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 Supreme Engineering's latest financial position, by checking our visualisation of its financial health.

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. The company has been paying a stable dividend for a few years now, but we'd like to see more evidence of consistency over a longer period. Its most recent annual dividend was ₹0.5 per share, effectively flat on its first payment two years ago.

It's good to see at least some dividend growth. Yet with a relatively short dividend paying history, we wouldn't want to depend on this dividend too heavily.

Dividend Growth Potential

While dividend payments have been relatively reliable, it would also be nice if earnings per share (EPS) were growing, as this is essential to maintaining the dividend's purchasing power over the long term. Over the past five years, it looks as though Supreme Engineering's EPS have declined at around 5.5% a year. 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

To summarise, shareholders should always check that Supreme Engineering's dividends are affordable, that its dividend payments are relatively stable, and that it has decent prospects for growing its earnings and dividend. First, we think Supreme Engineering has an acceptable payout ratio and its dividend is well covered by cashflow. Earnings per share have been falling, and the company has a relatively short dividend history - shorter than we like, anyway. In sum, we find it hard to get excited about Supreme Engineering 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.

Investors generally tend to favour companies with a consistent, stable dividend policy as opposed to those operating an irregular one. However, there are other things to consider for investors when analysing stock performance. To that end, Supreme Engineering has 4 warning signs (and 3 which are a bit concerning) we think you should know about.

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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