Key Things To Watch Out For If You Are After American Water Works Company, Inc.'s (NYSE:AWK) 1.5% Dividend

Could American Water Works Company, Inc. (NYSE:AWK) be an attractive dividend share to own for the long haul? Investors are often drawn to strong companies with the idea of reinvesting the dividends. 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 1.5% yield is nothing to get excited about, but investors probably think the long payment history suggests American Water Works Company has some staying power. There are a few simple ways to reduce the risks of buying American Water Works Company for its dividend, and we'll go through these below.

Explore this interactive chart for our latest analysis on American Water Works Company!

Payout ratios

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. American Water Works Company paid out 55% 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.

In addition to comparing dividends against profits, we should inspect whether the company generated enough cash to pay its dividend. Unfortunately, while American Water Works Company pays a dividend, it also reported negative free cash flow last year. While there may be a good reason for this, it's not ideal from a dividend perspective.

Remember, you can always get a snapshot of American Water Works Company's latest financial position, by checking our visualisation of its financial health.

Dividend Volatility

One of the major risks of relying on dividend income, is the potential for a company to struggle financially and cut its dividend. Not only is your income cut, but the value of your investment declines as well - nasty. American Water Works Company has been paying dividends for a long time, but for the purpose of this analysis, we only examine the past 10 years of payments. The dividend has been stable over the past 10 years, which is great. We think this could suggest some resilience to the business and its dividends. During the past 10-year period, the first annual payment was US$0.8 in 2011, compared to US$2.2 last year. This works out to be a compound annual growth rate (CAGR) of approximately 10% a year over that 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

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. American Water Works Company has grown its earnings per share at 8.1% per annum over the past five years. The rate at which earnings have grown is quite decent, and by paying out more than half of its earnings as dividends, the company is striking a reasonable balance between reinvestment and returns to shareholders.

Conclusion

To summarise, shareholders should always check that American Water Works Company's dividends are affordable, that its dividend payments are relatively stable, and that it has decent prospects for growing its earnings and dividend. American Water Works Company gets a pass on its dividend payout ratio, but it paid out virtually all of its cash flow as dividends. This may just be a one-off, but we'd keep an eye on this. That said, we were glad to see it growing earnings and paying a fairly consistent dividend. In sum, we find it hard to get excited about American Water Works Company from a dividend perspective. It's not that we think it's a bad business; just that there are other companies that perform better on these criteria.

It's important to note that companies having a consistent dividend policy will generate greater investor confidence than those having an erratic one. At the same time, there are other factors our readers should be conscious of before pouring capital into a stock. For instance, we've picked out 1 warning sign for American Water Works Company that investors should take into consideration.

Looking for more high-yielding dividend ideas? Try our curated list of dividend stocks with a yield 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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