Could TGS-NOPEC Geophysical Company ASA (OB:TGS) 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. 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.
In this case, TGS-NOPEC Geophysical likely looks attractive to dividend investors, given its 4.5% dividend yield and nine-year payment history. We’d agree the yield does look enticing. The company also bought back stock equivalent to around 0.6% of market capitalisation this year. When buying stocks for their dividends, you should always run through the checks below, to see if the dividend looks sustainable.
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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. TGS-NOPEC Geophysical paid out 66% of its profit as dividends, over the trailing twelve month period. This is a healthy payout ratio, and while it does limit the amount of earnings that can be reinvested in the business, there is also some room to lift the payout ratio over time.
In addition to comparing dividends against profits, we should inspect whether the company generated enough cash to pay its dividend. The company paid out 76% of its free cash flow as dividends last year, which is adequate, but reduces the wriggle room in the event of a downturn. It’s positive to see that TGS-NOPEC Geophysical’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.
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. Looking at the last decade of data, we can see that TGS-NOPEC Geophysical paid its first dividend at least nine years ago. Although it has been paying a dividend for several years now, the dividend has been cut at least once by more than 20%, and we’re cautious about the consistency of its dividend across a full economic cycle. During the past nine-year period, the first annual payment was US$0.35 in 2010, compared to US$1.08 last year. This works out to be a compound annual growth rate (CAGR) of approximately 14% a year over that time. TGS-NOPEC Geophysical’s dividend payments have fluctuated, so it hasn’t grown 14% every year, but the CAGR is a useful rule of thumb for approximating the historical growth.
TGS-NOPEC Geophysical has grown distributions at a rapid rate despite cutting the dividend at least once in the past. Companies that cut once often cut again, but it might be worth considering if the business has turned a corner.
Dividend Growth Potential
With a relatively unstable dividend, it’s even more important to evaluate if earnings per share (EPS) are growing – it’s not worth taking the risk on a dividend getting cut, unless you might be rewarded with larger dividends in future. TGS-NOPEC Geophysical’s earnings per share have shrunk at 12% 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 TGS-NOPEC Geophysical’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 think TGS-NOPEC Geophysical is paying out an acceptable percentage of its cashflow and profit. Unfortunately, the company has not been able to generate earnings per share growth, and cut its dividend at least once in the past. In summary, TGS-NOPEC Geophysical has a number of shortcomings that we’d find it hard to get past. Things could change, but we think there are a number of better ideas out there.
Without at least some growth in earnings per share over time, the dividend will eventually come under pressure either from costs or inflation. Very few businesses see earnings consistently shrink year after year in perpetuity though, and so it might be worth seeing what the 9 analysts we track are forecasting for the future.
We have also put together a list of global stocks with a market capitalisation above $1bn and yielding more 3%.
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