Today we'll take a closer look at Paychex, Inc. (NASDAQ:PAYX) 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. If you are hoping to live on your dividends, it's important to be more stringent with your investments than the average punter. Regular readers know we like to apply the same approach to each dividend stock, and we hope you'll find our analysis useful.
A slim 2.5% yield is hard to get excited about, but the long payment history is respectable. At the right price, or with strong growth opportunities, Paychex could have potential. Some simple analysis can offer a lot of insights when buying a company for its dividend, and we'll go through this 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. Paychex paid out 84% of its profit as dividends, over the trailing twelve month period. Paying out a majority of its earnings limits the amount that can be reinvested in the business. This may indicate a commitment to paying a dividend, or a dearth of investment opportunities.
In addition to comparing dividends against profits, we should inspect whether the company generated enough cash to pay its dividend. Paychex paid out 79% of its cash flow last year. This may be sustainable but it does not leave much of a buffer for unexpected circumstances. It's positive to see that Paychex'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.
With a strong net cash balance, Paychex investors may not have much to worry about in the near term from a dividend perspective.
We update our data on Paychex every 24 hours, so you can always get our latest analysis of its financial health, here.
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. Paychex has been paying dividends for a long time, but for the purpose of this analysis, we only examine the past 10 years of 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$1.2 in 2011, compared to US$2.5 last year. This works out to be a compound annual growth rate (CAGR) of approximately 7.2% a year over that time.
Companies like this, growing their dividend at a decent rate, can be very valuable over the long term, if the rate of growth can be maintained.
Dividend Growth Potential
While dividend payments have been relatively reliable, it would also be nice if earnings per share (EPS) were growing, as this is essential to maintaining the dividend's purchasing power over the long term. Paychex has grown its earnings per share at 7.5% per annum over the past five years. EPS have been growing at a reasonable rate, although with most of the profits being paid out to shareholders, we question if the company will be able to keep growing its dividends in the future.
Dividend investors should always want to know if a) a company's dividends are affordable, b) if there is a track record of consistent payments, and c) if the dividend is capable of growing. First, we think Paychex is paying out an acceptable percentage of its cashflow and profit. Earnings growth has been limited, but we like that the dividend payments have been fairly consistent. Ultimately, Paychex comes up short on our dividend analysis. It's not that we think it is a bad company - just that there are likely more appealing dividend prospects out there on this analysis.
Investors generally tend to favour companies with a consistent, stable dividend policy as opposed to those operating an irregular one. Still, investors need to consider a host of other factors, apart from dividend payments, when analysing a company. For example, we've picked out 1 warning sign for Paychex that investors should know about before committing capital to this stock.
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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