Today we'll take a closer look at Omnicom Group Inc. (NYSE:OMC) 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 Omnicom Group. It would not be a surprise to discover that many investors buy it for the dividends. The company also bought back stock during the year, equivalent to approximately 1.3% of the company's market capitalisation at the time. There are a few simple ways to reduce the risks of buying Omnicom Group for its dividend, and we'll go through these below.
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. Omnicom Group paid out 59% of its profit as dividends, over the trailing twelve month period. This is a healthy payout ratio, and while it does limit the amount of earnings that can be reinvested in the business, there is also some room to lift the payout ratio over time.
We also measure dividends paid against a company's levered free cash flow, to see if enough cash was generated to cover the dividend. Omnicom Group paid out a conservative 34% of its free cash flow as dividends last year. It's positive to see that Omnicom Group'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.
Consider getting our latest analysis on Omnicom Group's financial position here.
From the perspective of an income investor who wants to earn dividends for many years, there is not much point buying a stock if its dividend is regularly cut or is not reliable. For the purpose of this article, we only scrutinise the last decade of Omnicom Group's dividend payments. During this period the dividend has been stable, which could imply the business could have relatively consistent earnings power. During the past 10-year period, the first annual payment was US$0.8 in 2011, compared to US$2.8 last year. Dividends per share have grown at approximately 13% per year over this time.
With rapid dividend growth and no notable cuts to the dividend over a lengthy period of time, we think this company has a lot going for it.
Dividend Growth Potential
Dividend payments have been consistent over the past few years, but we should always check if earnings per share (EPS) are growing, as this will help maintain the purchasing power of the dividend. Omnicom Group's EPS are effectively flat over the past five years. Flat earnings per share are acceptable for a time, but over the long term, the purchasing power of the company's dividends could be eroded by inflation.
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. Omnicom Group's payout ratios are within a normal range for the average corporation, and we like that its cashflow was stronger than reported profits. Moreover, earnings have been shrinking. While the dividends have been fairly steady, we'd wonder for how much longer this will be sustainable if earnings continue to decline. While we're not hugely bearish on it, overall we think there are potentially better dividend stocks than Omnicom Group out there.
Investors generally tend to favour companies with a consistent, stable dividend policy as opposed to those operating an irregular one. Meanwhile, despite the importance of dividend payments, they are not the only factors our readers should know when assessing a company. For instance, we've picked out 1 warning sign for Omnicom Group that investors should take into consideration.
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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