Want to participate in a short research study? Help shape the future of investing tools and you could win a $250 gift card!
Is McLeod Russel India Limited (NSE:MCLEODRUSS) a good dividend stock? How would you know? Dividend paying companies with growing earnings can be highly rewarding in the long term. Unfortunately, it's common for investors to be enticed in by the seemingly attractive yield, and lose money when the company has to cut its dividend payments.
Investors might not know much about McLeod Russel India's dividend prospects, even though it has been paying dividends for the last nine years and offers a 2.9% yield. A 2.9% yield is not inspiring, but the longer payment history has some appeal. Remember though, given the recent drop in its share price, McLeod Russel India's yield will look higher, even though the market may now be expecting a decline in its long-term prospects. Some simple research can reduce the risk of buying McLeod Russel India for its dividend - read on to learn more.
NSEI:MCLEODRUSS Historical Dividend Yield, June 24th 2019
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. As a result, we should always investigate whether a company can afford its dividend, measured as a percentage of a company's net income after tax. Looking at the data, we can see that 2.1% of McLeod Russel India's profits were paid out as dividends in the last 12 months. We like this low payout ratio, because it implies the dividend is well covered and leaves ample opportunity for reinvestment.
In addition to comparing dividends against profits, we should inspect whether the company generated enough cash to pay its dividend. McLeod Russel India's cash payout ratio last year was 1.8%. Cash flows are typically lumpy, but this looks like an appropriately conservative payout. It's encouraging to see that the dividend is covered by both profit and cash flow. This generally suggests the dividend is sustainable, as long as earnings don't drop precipitously.
Is McLeod Russel India's Balance Sheet Risky?
As McLeod Russel India has a meaningful amount of debt, we need to check its balance sheet to see if the company might have debt risks. A rough way to check this is with these two simple ratios: a) net debt divided by EBITDA (earnings before interest, tax, depreciation and amortisation), and b) net interest cover. Net debt to EBITDA is a measure of a company's total debt. Net interest cover measures the ability to meet interest payments on debt. Essentially we check that a) a company does not have too much debt, and b) that it can afford to pay the interest. McLeod Russel India has net debt of 6.17 times its earnings before interest, tax, depreciation and amortisation (EBITDA) which implies meaningful risk if interest rates rise of earnings decline.
We calculated its interest cover by measuring its earnings before interest and tax (EBIT), and dividing this by the company's net interest expense. Interest cover of less than 5x its interest expense is starting to become a concern for McLeod Russel India, and be aware that lenders may place additional restrictions on the company as well. High debt and weak interest cover are not a great combo, and we would be cautious of relying on this company's dividend while these metrics persist.
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. Looking at the last decade of data, we can see that McLeod Russel India paid its first dividend at least nine years ago. Although it has been paying a dividend for several years now, the dividend has been cut at least once by more than 20%, and we're cautious about the consistency of its dividend across a full economic cycle. During the past nine-year period, the first annual payment was ₹4.00 in 2010, compared to ₹0.50 last year. This works out to a decline of approximately 88% over that time.
When a company's per-share dividend falls we question if this reflects poorly on either the business or management. Either way, we find it hard to get excited about a company with a declining dividend.
Dividend Growth Potential
Given that dividend payments have been shrinking like a glacier in a warming world, we need to check if there are some bright spots on the horizon. McLeod Russel India's EPS are down -0.6% over the past year. We're not overly concerned about the drop in earnings per share in any given year, since there could be several reasons for this. However, the best dividend stocks all generate regular earnings growth over the long term. We do note though, one year is too short a time to be drawing strong conclusions about a company's future prospects.
Conclusion
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. First, we like that the company's dividend payments appear well covered, although the retained capital also needs to be effectively reinvested. Second, earnings per share have been in decline, and its dividend has been cut at least once in the past. Ultimately, McLeod Russel India 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.
We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.
If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. 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. Simply Wall St has no position in the stocks mentioned. Thank you for reading.
