Here's Why We're Wary Of Buying Universal's (NYSE:UVV) For Its Upcoming Dividend

Readers hoping to buy Universal Corporation (NYSE:UVV) for its dividend will need to make their move shortly, as the stock is about to trade ex-dividend. You can purchase shares before the 8th of October in order to receive the dividend, which the company will pay on the 2nd of November.

Universal's next dividend payment will be US$0.77 per share. Last year, in total, the company distributed US$3.08 to shareholders. Calculating the last year's worth of payments shows that Universal has a trailing yield of 7.3% on the current share price of $42.2. 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! We need to see whether the dividend is covered by earnings and if it's growing.

View our latest analysis for Universal

Dividends are usually paid out of company profits, so if a company pays out more than it earned then its dividend is usually at greater risk of being cut. Last year Universal paid out 99% of its profits as dividends to shareholders, suggesting the dividend is not well covered by earnings. A useful secondary check can be to evaluate whether Universal generated enough free cash flow to afford its dividend. It paid out 84% of its free cash flow as dividends, which is within usual limits but will limit the company's ability to lift the dividend if there's no growth.

It's good to see that while Universal's dividends were not well covered by profits, at least they are affordable from a cash perspective. Still, if the company continues paying out such a high percentage of its profits, the dividend could be at risk if business turns sour.

Click here to see how much of its profit Universal paid out over the last 12 months.

Have Earnings And Dividends Been Growing?

When earnings decline, dividend companies become much harder to analyse and own safely. Investors love dividends, so if earnings fall and the dividend is reduced, expect a stock to be sold off heavily at the same time. Readers will understand then, why we're concerned to see Universal's earnings per share have dropped 6.5% a year over the past five years. When earnings per share fall, the maximum amount of dividends that can be paid also falls.

Many investors will assess a company's dividend performance by evaluating how much the dividend payments have changed over time. In the last 10 years, Universal has lifted its dividend by approximately 5.1% a year on average. The only way to pay higher dividends when earnings are shrinking is either to pay out a larger percentage of profits, spend cash from the balance sheet, or borrow the money. Universal is already paying out 99% of its profits, and with shrinking earnings we think it's unlikely that this dividend will grow quickly in the future.

The Bottom Line

Should investors buy Universal for the upcoming dividend? Earnings per share have been shrinking in recent times. What's more, Universal is paying out a majority of its earnings and over half its free cash flow. It's hard to say if the business has the financial resources and time to turn things around without cutting the dividend. Overall it doesn't look like the most suitable dividend stock for a long-term buy and hold investor.

With that in mind though, if the poor dividend characteristics of Universal don't faze you, it's worth being mindful of the risks involved with this business. Case in point: We've spotted 1 warning sign for Universal you should be aware of.

We wouldn't recommend just buying the first dividend stock you see, though. Here's a list of interesting dividend stocks with a greater than 2% yield and an upcoming dividend.

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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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