Probably the only way to lose money faster than buying dividend stocks that cut their payouts is to light a pile of dollar bills on fire and throw some gasoline on top for good measure. The best way to not fall into this trap is to avoid stocks where a dividend cut looks very, very likely in the future. Three companies that look like they are about to cut their dividends are Williams Partners (NYSE: WPZ), CVR Energy (CVI 0.85%), and GNC Holdings (GNC). Here's a quick breakdown why these stocks could see their sky-high dividend yields come crashing down soon.
Image source: Getty Images.
Stuck between a rock and a hard place
Ever since the deal between Williams Companies (WMB 0.39%) and Energy Transfer Equity was nixed earlier this past year, Williams has been put in a peculiar situation. The company has quite possibly one of the most attractive natural gas pipeline assets to build off of with its Transco pipeline, and it wasn't that long ago that both Williams and Williams Partners boasted one of the largest backlogs of new projects among midstream companies.
What Williams has been finding out, though, is that the options for financing that growth are getting harder and harder to come by. As it stands today, Williams Partners and Williams Companies have net-debt-to-EBITDA ratios of 5.8 times and 7.4 times, respectively. At those higher rates, it's going to be hard to finance new work with debt. On top of that, Williams Partners is just one notch into an investment grade credit rating and could be at risk of losing that rating if it were to add more debt. That leaves two ways to finance that new work: raise equity or find some internally generated cash. With a distribution yield of 9.8% and incentive distribution rights that mean even more cash per share goes out the door than what shareholders receive, it's prohibitively expensive to raise cash through equity as well.
With so few financing options, internally generated cash is Williams Partners' best option right now, but almost all of that is going to shareholder distributions. If the company can't get more favorable rates for debt or equity, don't be surprised if it cuts its payout to pay for growth.
Cash stores drying up
CVR Energy is in its own tough spot as well. The company's revenue source is the distribution payments from its two subsidiary master limited partnerships -- oil refiner CVR Refining (CVRR) and nitrogen fertilizer manufacturer CVR Partners. Problem is, though, that both of these subsidiaries have variable rate distributions that come from the excess cash generated each quarter, but neither is generating any excess cash to pay the parent company.
As a result, cash levels at CVR Energy company have declined 20% in 2016 as the subsidiaries are retaining cash to get through tough times and CVR Energy makes its own dividend payments. Also, total consolidated debt for the three has increased $500 million.
If this was just a temporary blip in the cyclical ups and downs of the market, then you could maybe just shrug this one off. Problem is, though, that the markets for both refining and nitrogen fertilizer don't look to be improving any time soon. Cheap U.S. natural gas has led to the construction of several new nitrogen fertilizer plants, but the more expensive producers haven't been pushed out of the market yet, and it's creating incredibly low nitrogen prices. Likewise, margins for oil refining are very tight right now as crude oil prices have been on the rise lately.
If these trends continue for a few more quarters, then CVR Energy will have to keep tapping its cash stores to pay its dividend. That isn't something it can do for a long time, and it could very well lead to a dividend cut in the future.
Continued declines don't bode well for future dividends
Earlier this year, GNC Holdings raised its dividend by 11%, but that was probably the last bit of good news this company has seen lately. The company has been tied up in legal disputes about its herbal supplements, and it has wildly missed on a few earnings results as sales at both its own stores and its franchises have been falling fast. To add insult to injury, GNC suspended its share repurchase program, scrapped its full-year guidance, and CEO Mike Archbold stepped down.
Not doling out as much cash for its share repurchase program would seem like a decent way to preserve dividend payments for the foreseeable future, but recent poor performance suggests that may not be enough. Free cash flow has pretty much dried up, and its cash levels have been dwindling fast. At the end of the most recent quarter, GNC had only $37 million in cash on hand, down from $164 million the same time last year.
If GNC has any hopes of not suffering a dividend cut or an outright suspension, it is going to have turn things around fast. Management wants to get there through less confusing pricing models, an improved loyalty program, improving the in-store experience, and trying to reinvigorate its branded product pipeline. Considering how fast things have declined in 2016, the chances of that happening don't seem likely.
