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Dividend paying stocks like Mastek Limited (NSE:MASTEK) 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 popular dividend stock because of its yield, and then lose money if the company’s dividend doesn’t live up to expectations.
While Mastek’s 1.9% dividend yield is not the highest, we think its lengthy payment history is quite interesting. Some simple research can reduce the risk of buying Mastek for its dividend – read on to learn more.
Companies (usually) pay dividends out of their earnings. If a company is paying more than it earns, the dividend might have to be cut. 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 20% of Mastek’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.
Another important check we do is to see if the free cash flow generated is sufficient to pay the dividend. Mastek’s cash payout ratio in the last year was 30%, which suggests dividends were well covered by cash generated by the business. It’s positive to see that Mastek’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.
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 Mastek’s dividend payments. This dividend has been unstable, which we define as having fallen by at least 20% one or more times over this time. During the past ten-year period, the first annual payment was ₹10.00 in 2009, compared to ₹8.50 last year. This works out to be a decline of approximately 1.6% per year over that time. Mastek’s dividend hasn’t shrunk linearly at 1.6% per annum, but the CAGR is a useful estimate of the historical rate of change.
When a company’s per-share dividend falls we question if this reflects poorly on either the business or management. Either way, we find it hard to get excited about a company with a declining dividend.
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. Strong earnings per share (EPS) growth might encourage our interest in the company despite fluctuating dividends, which is why it’s great to see Mastek has grown its earnings per share at 28% per annum over the past five years. Earnings per share have grown rapidly, and the company is retaining a majority of its earnings. We think this is ideal from an investment perspective, if the company is able to reinvest these earnings effectively.
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. 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 Mastek scores well on our analysis. It’s not quite perfect, but we’d definitely be keen to take a closer look.
You can also discover whether shareholders are aligned with insider interests by checking our visualisation of insider shareholdings and trades in Mastek stock.
If you are a dividend investor, you might also want to look at our curated list of dividend stocks yielding above 3%.
We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.
If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. 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. Simply Wall St has no position in the stocks mentioned. Thank you for reading.