Is ACES Electronics Co., Ltd. (TPE:3605) A Smart Pick For Income Investors?

Dividend paying stocks like ACES Electronics Co., Ltd. (TPE:3605) tend to be popular with investors, and for good reason - some research suggests a significant amount of all stock market returns come from reinvested dividends. Unfortunately, it's common for investors to be enticed in by the seemingly attractive yield, and lose money when the company has to cut its dividend payments.

With a 1.8% yield and a eight-year payment history, investors probably think ACES Electronics looks like a reliable dividend stock. A low yield is generally a turn-off, but if the prospects for earnings growth were strong, investors might be pleasantly surprised by the long-term results. Some simple research can reduce the risk of buying ACES Electronics for its dividend - read on to learn more.

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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. So we need to form a view on if a company's dividend is sustainable, relative to its net profit after tax. ACES Electronics paid out 31% of its profit as dividends, over the trailing twelve month period. This is a medium payout level that leaves enough capital in the business to fund opportunities that might arise, while also rewarding shareholders. Besides, if reinvestment opportunities dry up, the company has room to increase the dividend.

In addition to comparing dividends against profits, we should inspect whether the company generated enough cash to pay its dividend. ACES Electronics paid out 23% of its free cash flow as dividends last year, which is conservative and suggests the dividend is sustainable. It's positive to see that ACES Electronics' 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.

We update our data on ACES Electronics 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 last decade of data, we can see that ACES Electronics paid its first dividend at least eight years ago. It's good to see that ACES Electronics has been paying a dividend for a number of years. However, the dividend has been cut at least once in the past, and we're concerned that what has been cut once, could be cut again. During the past eight-year period, the first annual payment was NT$1.2 in 2013, compared to NT$0.8 last year. The dividend has shrunk at around 5.7% a year during that period. ACES Electronics' 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 ACES Electronics for its dividend, given that payments have shrunk over the past eight 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. Strong earnings per share (EPS) growth might encourage our interest in the company despite fluctuating dividends, which is why it's great to see ACES Electronics has grown its earnings per share at 14% per annum over the past five years. A company paying out less than a quarter of its earnings as dividends, and growing earnings at more than 10% per annum, looks to be right in the cusp of its growth phase. At the right price, we might be interested.

Conclusion

To summarise, shareholders should always check that ACES Electronics' dividends are affordable, that its dividend payments are relatively stable, and that it has decent prospects for growing its earnings and dividend. Firstly, we like that ACES Electronics has low and conservative payout ratios. We were also glad to see it growing earnings, but it was concerning to see the dividend has been cut at least once in the past. All things considered, ACES Electronics looks like a strong prospect. At the right valuation, it could be something special.

Market movements attest to how highly valued a consistent dividend policy is compared to one which is more unpredictable. At the same time, there are other factors our readers should be conscious of before pouring capital into a stock. Taking the debate a bit further, we've identified 2 warning signs for ACES Electronics that investors need to be conscious of moving forward.

We have also put together a list of global stocks with a market capitalisation above $1bn and yielding more 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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