Here's Why We're Wary Of Buying MGE Energy's (NASDAQ:MGEE) For Its Upcoming Dividend

Regular readers will know that we love our dividends at Simply Wall St, which is why it's exciting to see MGE Energy, Inc. (NASDAQ:MGEE) is about to trade ex-dividend in the next 4 days. The ex-dividend date is usually set to be one business day before the record date which is the cut-off date on which you must be present on the company's books as a shareholder in order to receive the dividend. The ex-dividend date is an important date to be aware of as any purchase of the stock made on or after this date might mean a late settlement that doesn't show on the record date. In other words, investors can purchase MGE Energy's shares before the 29th of February in order to be eligible for the dividend, which will be paid on the 15th of March.

The company's next dividend payment will be US$0.4275 per share, and in the last 12 months, the company paid a total of US$1.71 per share. Looking at the last 12 months of distributions, MGE Energy has a trailing yield of approximately 2.7% on its current stock price of US$64.49. If you buy this business for its dividend, you should have an idea of whether MGE Energy's dividend is reliable and sustainable. We need to see whether the dividend is covered by earnings and if it's growing.

See our latest analysis for MGE Energy

If a company pays out more in dividends than it earned, then the dividend might become unsustainable - hardly an ideal situation. MGE Energy paid out 51% of its earnings to investors last year, a normal payout level for most businesses. A useful secondary check can be to evaluate whether MGE Energy generated enough free cash flow to afford its dividend. It paid out an unsustainably high 390% of its free cash flow as dividends over the past 12 months, which is worrying. Unless there were something in the business we're not grasping, this could signal a risk that the dividend may have to be cut in the future.

MGE Energy paid out less in dividends than it reported in profits, but unfortunately it didn't generate enough cash to cover the dividend. Cash is king, as they say, and were MGE Energy to repeatedly pay dividends that aren't well covered by cashflow, we would consider this a warning sign.

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

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. Investors love dividends, so if earnings fall and the dividend is reduced, expect a stock to be sold off heavily at the same time. With that in mind, we're encouraged by the steady growth at MGE Energy, with earnings per share up 6.0% on average over the last five years. Earnings have been growing at a steady rate, but we're concerned dividend payments consumed most of the company's cash flow over the past year.

Another key way to measure a company's dividend prospects is by measuring its historical rate of dividend growth. Since the start of our data, 10 years ago, MGE Energy has lifted its dividend by approximately 5.0% 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.

To Sum It Up

Has MGE Energy got what it takes to maintain its dividend payments? Earnings per share have grown somewhat, although MGE Energy paid out over half its profits and the dividend was not well covered by free cash flow. With the way things are shaping up from a dividend perspective, we'd be inclined to steer clear of MGE Energy.

Although, if you're still interested in MGE Energy and want to know more, you'll find it very useful to know what risks this stock faces. In terms of investment risks, we've identified 2 warning signs with MGE Energy and understanding them should be part of your investment process.

Generally, we wouldn't recommend just buying the first dividend stock you see. Here's a curated list of interesting stocks that are strong dividend payers.

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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.