Dividend paying stocks like X Financial (NYSE:XYF) 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. 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.
Remember that the recent share price drop will make X Financial’s yield look higher, even though recent events might have impacted the company’s prospects. Before you buy any stock for its dividend however, you should always remember Warren Buffett’s two rules: 1) Don’t lose money, and 2) Remember rule #1. We’ll run through some checks below to help with this.
Companies (usually) pay dividends out of their earnings. If a company is paying more than it earns, the dividend might have to be cut. Comparing dividend payments to a company’s net profit after tax is a simple way of reality-checking whether a dividend is sustainable. Looking at the data, we can see that 11% of X Financial’s profits were paid out as dividends in the last 12 months. Given the low payout ratio, it is hard to envision the dividend coming under threat, barring a catastrophe.
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. This company has been paying a dividend for less than 2 years, which we think is too soon to consider it a reliable dividend stock. Its most recent annual dividend was CN¥0.67 per share.
Dividend Growth Potential
The other half of the dividend investing equation is evaluating whether earnings per share (EPS) are growing. Growing EPS can help maintain or increase the purchasing power of the dividend over the long run. X Financial’s earnings per share are up 27% on last year. It’s good to see earnings per share rising, but one year is too short a period to get excited about. Were this trend to continue, we’d be interested. The company is only paying out a fraction of its earnings as dividends, and in the past been able to use the retained earnings to grow its profits rapidly – an ideal combination. Any one year of performance can be misleading for a variety of reasons, so we wouldn’t like to form any strong conclusions based on these numbers alone.
We’d also point out that X Financial issued a meaningful number of new shares in the past year. Trying to grow the dividend when issuing new shares reminds us of the ancient Greek tale of Sisyphus – perpetually pushing a boulder uphill. Companies that consistently issue new shares are often suboptimal from a dividend perspective.
When we look at a dividend stock, we need to form a judgement on whether the dividend will grow, if the company is able to maintain it in a wide range of economic circumstances, and if the dividend payout is sustainable. We’re glad to see X Financial has a low payout ratio, as this suggests earnings are being reinvested in the business. Second, the company has not been able to generate earnings growth, and its history of dividend payments too short for us to thoroughly evaluate the dividend’s consistency across an economic cycle. X Financial has a number of positive attributes, but falls short of our ideal dividend company. It may be worth a look at the right price, though.
Are management backing themselves to deliver performance? Check their shareholdings in X Financial in our latest insider ownership analysis.
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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If you spot an error that warrants correction, please contact the editor at email@example.com. 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. Simply Wall St has no position in the stocks mentioned. Thank you for reading.