Tethys Oil AB (publ) (STO:TETY) Investors Should Think About This Before Buying It For Its Dividend

Is Tethys Oil AB (publ) (STO:TETY) a good dividend stock? How can we tell? Dividend paying companies with growing earnings can be highly rewarding in the long term. 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.

In this case, Tethys Oil likely looks attractive to dividend investors, given its 6.2% dividend yield and six-year payment history. We'd agree the yield does look enticing. The company also bought back stock equivalent to around 7.8% of market capitalisation this year. Remember though, due to the recent spike in its share price, Tethys Oil's yield will look lower, even though the market may now be factoring in an improvement in its long-term prospects. Some simple analysis can reduce the risk of holding Tethys Oil for its dividend, and we'll focus on the most important aspects below.

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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. 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 246% of Tethys Oil's profits were paid out as dividends in the last 12 months. A payout ratio above 100% is definitely an item of concern, unless there are some other circumstances that would justify it.

In addition to comparing dividends against profits, we should inspect whether the company generated enough cash to pay its dividend. Tethys Oil paid out 104% of its free cash flow last year, suggesting the dividend is poorly covered by cash flow. Cash is slightly more important than profit from a dividend perspective, but given Tethys Oil's payments were not well covered by either earnings or cash flow, we are concerned about the sustainability of this dividend.

With a strong net cash balance, Tethys Oil investors may not have much to worry about in the near term from a dividend perspective.

We update our data on Tethys Oil 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. Looking at the data, we can see that Tethys Oil has been paying a dividend for the past six years. Although it has been paying a dividend for several years now, the dividend has been cut at least once, and we're cautious about the consistency of its dividend across a full economic cycle. During the past six-year period, the first annual payment was US$0.1 in 2015, compared to US$0.5 last year. This works out to be a compound annual growth rate (CAGR) of approximately 26% a year over that time. The dividends haven't grown at precisely 26% every year, but this is a useful way to average out the historical rate of growth.

Tethys Oil 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. Over the past five years, it looks as though Tethys Oil's EPS have declined at around 32% a year. With this kind of significant decline, we always wonder what has changed in the business. Dividends are about stability, and Tethys Oil's earnings per share, which support the dividend, have been anything but stable.

Conclusion

To summarise, shareholders should always check that Tethys Oil's dividends are affordable, that its dividend payments are relatively stable, and that it has decent prospects for growing its earnings and dividend. It's a concern to see that the company paid out such a high percentage of its earnings and cashflow as dividends. Second, earnings per share have been in decline, and its dividend has been cut at least once in the past. In this analysis, Tethys Oil doesn't shape up too well as a dividend stock. We'd find it hard to look past the flaws, and would not be inclined to think of it as a reliable dividend-payer.

Companies possessing a stable dividend policy will likely enjoy greater investor interest than those suffering from a more inconsistent approach. Meanwhile, despite the importance of dividend payments, they are not the only factors our readers should know when assessing a company. Taking the debate a bit further, we've identified 3 warning signs for Tethys Oil that investors need to be conscious of moving forward.

Looking for more high-yielding dividend ideas? Try our curated list of dividend stocks with a yield 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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