Should You Buy Allison Transmission Holdings, Inc. (NYSE:ALSN) For Its Upcoming Dividend?

Some investors rely on dividends for growing their wealth, and if you're one of those dividend sleuths, you might be intrigued to know that Allison Transmission Holdings, Inc. (NYSE:ALSN) is about to go ex-dividend in just 3 days. The ex-dividend date is one business day before a company's record date, which is the date on which the company determines which shareholders are entitled to receive a dividend. The ex-dividend date is important because any transaction on a stock needs to have been settled before the record date in order to be eligible for a dividend. Therefore, if you purchase Allison Transmission Holdings' shares on or after the 19th of May, you won't be eligible to receive the dividend, when it is paid on the 30th of May.

The company's next dividend payment will be US$0.27 per share, on the back of last year when the company paid a total of US$1.08 to shareholders. Based on the last year's worth of payments, Allison Transmission Holdings has a trailing yield of 1.0% on the current stock price of US$105.07. We love seeing companies pay a dividend, but it's also important to be sure that laying the golden eggs isn't going to kill our golden goose! So we need to investigate whether Allison Transmission Holdings can afford its dividend, and if the dividend could grow.

Our free stock report includes 2 warning signs investors should be aware of before investing in Allison Transmission Holdings. Read for free now.

Dividends are typically paid out of company income, so if a company pays out more than it earned, its dividend is usually at a higher risk of being cut. Allison Transmission Holdings is paying out just 12% of its profit after tax, which is comfortably low and leaves plenty of breathing room in the case of adverse events. That said, even highly profitable companies sometimes might not generate enough cash to pay the dividend, which is why we should always check if the dividend is covered by cash flow. The good news is it paid out just 14% of its free cash flow in the last year.

It's positive to see that Allison Transmission Holdings'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.

View our latest analysis for Allison Transmission Holdings

Click here to see the company's payout ratio, plus analyst estimates of its future dividends.

Have Earnings And Dividends Been Growing?

Stocks in companies that generate sustainable earnings growth often make the best dividend prospects, as it is easier to lift the dividend when earnings are rising. If business enters a downturn and the dividend is cut, the company could see its value fall precipitously. Fortunately for readers, Allison Transmission Holdings's earnings per share have been growing at 13% a year for the past five years. Earnings per share are growing rapidly and the company is keeping more than half of its earnings within the business; an attractive combination which could suggest the company is focused on reinvesting to grow earnings further. Fast-growing businesses that are reinvesting heavily are enticing from a dividend perspective, especially since they can often increase the payout ratio later.

Another key way to measure a company's dividend prospects is by measuring its historical rate of dividend growth. In the past 10 years, Allison Transmission Holdings has increased its dividend at approximately 8.4% a year on average. It's encouraging to see the company lifting dividends while earnings are growing, suggesting at least some corporate interest in rewarding shareholders.

The Bottom Line

From a dividend perspective, should investors buy or avoid Allison Transmission Holdings? We love that Allison Transmission Holdings is growing earnings per share while simultaneously paying out a low percentage of both its earnings and cash flow. These characteristics suggest the company is reinvesting in growing its business, while the conservative payout ratio also implies a reduced risk of the dividend being cut in the future. There's a lot to like about Allison Transmission Holdings, and we would prioritise taking a closer look at it.

In light of that, while Allison Transmission Holdings has an appealing dividend, it's worth knowing the risks involved with this stock. Case in point: We've spotted 2 warning signs for Allison Transmission Holdings you should be aware of.

If you're in the market for strong dividend payers, we recommend checking our selection of top dividend stocks.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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.