Does It Make Sense To Buy Shenmao Technology Inc (TPE:3305) For Its Yield?

Today we'll take a closer look at Shenmao Technology Inc (TPE:3305) from a dividend investor's perspective. Owning a strong business and reinvesting the dividends is widely seen as an attractive way of growing your wealth. 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.

A high yield and a long history of paying dividends is an appealing combination for Shenmao Technology. We'd guess that plenty of investors have purchased it for the income. Some simple analysis can reduce the risk of holding Shenmao Technology for its dividend, and we'll focus on the most important aspects below.

Explore this interactive chart for our latest analysis on Shenmao Technology!

Payout ratios

Companies (usually) pay dividends out of their earnings. If a company is paying more than it earns, the dividend might have to be cut. 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. Looking at the data, we can see that 99% of Shenmao Technology's profits were paid out as dividends in the last 12 months. This is quite a high payout ratio that suggests the dividend is not well covered by earnings.

Another important check we do is to see if the free cash flow generated is sufficient to pay the dividend. The company paid out 74% of its free cash flow, which is not bad per se, but does start to limit the amount of cash Shenmao Technology has available to meet other needs. While the dividend was not well covered by profits, at least they were covered by free cash flow. Still, if the company continues paying out such a high percentage of its profits, the dividend could be at risk if business turns sour.

Consider getting our latest analysis on Shenmao Technology's financial position here.

Dividend Volatility

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 Shenmao Technology's dividend payments. The dividend has been cut on at least one occasion historically. During the past 10-year period, the first annual payment was NT$1.8 in 2010, compared to NT$1.0 last year. This works out to be a decline of approximately 5.7% per year over that time. Shenmao Technology's dividend hasn't shrunk linearly at 5.7% per annum, but the CAGR is a useful estimate of the historical rate of change.

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

Dividend Growth Potential

Given that dividend payments have been shrinking like a glacier in a warming world, we need to check if there are some bright spots on the horizon. Shenmao Technology's earnings per share have shrunk at 17% a year over the past five years. 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 Shenmao Technology 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. Using these criteria, Shenmao Technology looks quite suboptimal from a dividend investment perspective.

Market movements attest to how highly valued a consistent dividend policy is compared to one which is more unpredictable. However, there are other things to consider for investors when analysing stock performance. To that end, Shenmao Technology has 4 warning signs (and 2 which can't be ignored) we think you should know about.

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