Something To Consider Before Buying Vital Limited (NZSE:VTL) For The 3.4% Dividend

Is Vital Limited (NZSE:VTL) a good dividend stock? How can we tell? Dividend paying companies with growing earnings can be highly rewarding in the long term. 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.

With Vital yielding 3.4% and having paid a dividend for over 10 years, many investors likely find the company quite interesting. We'd guess that plenty of investors have purchased it for the income. Some simple research can reduce the risk of buying Vital for its dividend - read on to learn more.

Explore this interactive chart for our latest analysis on Vital!

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. Vital paid out 141% of its profit as dividends, over the trailing twelve month period. Unless there are extenuating circumstances, from the perspective of an investor who hopes to own the company for many years, a payout ratio of above 100% is definitely a concern.

Another important check we do is to see if the free cash flow generated is sufficient to pay the dividend. Vital paid out 22% of its free cash flow as dividends last year, which is conservative and suggests the dividend is sustainable. It's disappointing to see that the dividend was not covered by profits, but cash is more important from a dividend sustainability perspective, and Vital fortunately did generate enough cash to fund its dividend. Still, if the company repeatedly paid a dividend greater than its profits, we'd be concerned. Extraordinarily few companies are capable of persistently paying a dividend that is greater than their profits.

We update our data on Vital every 24 hours, so you can always get our latest analysis of its financial health, here.

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. For the purpose of this article, we only scrutinise the last decade of Vital's dividend payments. This dividend has been unstable, which we define as having been cut one or more times over this time. During the past 10-year period, the first annual payment was NZ$0.2 in 2011, compared to NZ$0.03 last year. Dividend payments have fallen sharply, down 88% over that time.

We struggle to make a case for buying Vital for its dividend, given that payments have shrunk over the past 10 years.

Dividend Growth Potential

With a relatively unstable dividend, and a poor history of shrinking dividends, it's even more important to see if EPS are growing. Over the past five years, it looks as though Vital's EPS have declined at around 18% a year. A sharp decline in earnings per share is not great from from a dividend perspective, as even conservative payout ratios can come under pressure if earnings fall far enough.

Conclusion

Dividend investors should always want to know if a) a company's dividends are affordable, b) if there is a track record of consistent payments, and c) if the dividend is capable of growing. We're not keen on the fact that Vital paid out such a high percentage of its income, although its cashflow is in better shape. Second, earnings per share have been in decline, and its dividend has been cut at least once in the past. In summary, Vital has a number of shortcomings that we'd find it hard to get past. Things could change, but we think there are likely more attractive alternatives out there.

Investors generally tend to favour companies with a consistent, stable dividend policy as opposed to those operating an irregular one. Still, investors need to consider a host of other factors, apart from dividend payments, when analysing a company. As an example, we've identified 4 warning signs for Vital that you should be aware of before investing.

If you are a dividend investor, you might also want to look at our curated list of dividend stocks yielding above 3%.

If you’re looking to trade Vital, open an account with the lowest-cost* platform trusted by professionals, Interactive Brokers. Their clients from over 200 countries and territories trade stocks, options, futures, forex, bonds and funds worldwide from a single integrated account. Promoted

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.
^*Interactive Brokers Rated Lowest Cost Broker by StockBrokers.com Annual Online Review 2020

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.