Here's Why We're Wary Of Buying Tea Life's (TSE:3172) For Its Upcoming Dividend

Regular readers will know that we love our dividends at Simply Wall St, which is why it's exciting to see Tea Life Co., Ltd. (TSE:3172) is about to trade ex-dividend in the next three days. Typically, the ex-dividend date is one business day before the record date which is the date on which a company determines the shareholders eligible to receive a dividend. The ex-dividend date is important because any transaction on a stock needs to have been settled before the record date in order to be eligible for a dividend. This means that investors who purchase Tea Life's shares on or after the 30th of January will not receive the dividend, which will be paid on the 4th of April.

The company's next dividend payment will be JP¥20.00 per share, and in the last 12 months, the company paid a total of JP¥40.00 per share. Last year's total dividend payments show that Tea Life has a trailing yield of 3.5% on the current share price of JP¥1134.00. Dividends are a major contributor to investment returns for long term holders, but only if the dividend continues to be paid. So we need to investigate whether Tea Life can afford its dividend, and if the dividend could grow.

View our latest analysis for Tea Life

Dividends are typically paid from company earnings. If a company pays more in dividends than it earned in profit, then the dividend could be unsustainable. Tea Life paid out 59% of its earnings to investors last year, a normal payout level for most businesses. Yet cash flow is typically more important than profit for assessing dividend sustainability, so we should always check if the company generated enough cash to afford its dividend. It paid out 91% of its free cash flow in the form of dividends last year, which is outside the comfort zone for most businesses. Cash flows are usually much more volatile than earnings, so this could be a temporary effect - but we'd generally want to look more closely here.

While Tea Life's dividends were covered by the company's reported profits, cash 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 Tea Life to repeatedly pay dividends that aren't well covered by cashflow, we would consider this a warning sign.

Click here to see how much of its profit Tea Life paid out over the last 12 months.

Have Earnings And Dividends Been Growing?

Businesses with strong growth prospects usually make the best dividend payers, because it's easier to grow dividends when earnings per share are improving. Investors love dividends, so if earnings fall and the dividend is reduced, expect a stock to be sold off heavily at the same time. With that in mind, we're encouraged by the steady growth at Tea Life, with earnings per share up 6.4% on average over the last five years. Earnings have been growing at a steady rate, but we're concerned dividend payments consumed most of the company's cash flow over the past year.

Another key way to measure a company's dividend prospects is by measuring its historical rate of dividend growth. Tea Life has delivered 4.0% dividend growth per year on average over the past 10 years. It's encouraging to see the company lifting dividends while earnings are growing, suggesting at least some corporate interest in rewarding shareholders.

The Bottom Line

Is Tea Life worth buying for its dividend? Tea Life is paying out a reasonable percentage of its income and an uncomfortably high 91% of its cash flow as dividends. At least earnings per share have been growing steadily. It's not an attractive combination from a dividend perspective, and we're inclined to pass on this one for the time being.

With that in mind though, if the poor dividend characteristics of Tea Life don't faze you, it's worth being mindful of the risks involved with this business. Be aware that Tea Life is showing 4 warning signs in our investment analysis, and 1 of those is significant...

If you're in the market for strong dividend payers, we recommend checking our selection of top dividend stocks.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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.