These Dividends Are Done

It's scary out there for dividend investors.

Even with the recent rally, dividend yields are sky-high. According to Capital IQ, there are 1,286 stocks on our major exchanges that have yields of 5% or more. But a lot of these are dividend traps, enticing us with the promise of fat quarterly payouts only to cut them down the road.

As a stark reminder, we can look to General Electric (NYSE: GE  ) . Once hailed as the safest of the safe, GE has in short succession gotten government help, cut its dividend to save cash and potentially retain its AAA debt rating, and then lost that AAA status anyway.

It gets worse, though
It's gotten so bad that horrible stress-test results -- mandating billions more in capital infusions -- actually lifted bank shares. Recent dividend cuts, too, have been looked at as favorable events. We can partially blame JPMorgan (NYSE: JPM  ) for that. A couple weeks after President Obama declared JPMorgan to be a "well-managed" bank, it slashed its quarterly dividend from 38 cents to 5 cents a share.

Sure enough, shares actually went up on the news that JPMorgan would be shoring up its capital position by reducing its dividend payouts by billions a year.

Fellow banks US Bancorp and Wells Fargo (NYSE: WFC  ) took their cue and soon followed suit, citing similar "cutting from a position of strength" arguments. When all the big guys are cutting dividends, I can't see why a smaller player like BB&T (NYSE: BBT  ) is still maintaining its 7.6% dividend. Even if it can afford to pay the dividend, why would it? It can save capital without the dire consequences normally associated with a dividend cut.

But I've already given my opinion on the banks. Let's take a look at some non-financial companies that could be headed for a big fall (dividend-ly speaking).

The "5% of nothing" club
Traditionally, a 5% dividend yield has been eye-popping enough to elicit fears of a dividend cut. Now, it feels commonplace. When you see a blue chip like Kraft (NYSE: KFT  ) creeping up on a 5% yield, anything short of double digits starts to feel safe. And we start getting a little greedy.

But that greed can turn right back into fear if the great double-whammy curse of high-yielding stocks kicks in. After all, we buy dividend stocks because they provide a large, steady stream of income and have the promise of stock price appreciation. But then:

  • In this environment, a susceptible high-yielding company's share price takes a beating (Whammy!).
  • In order to preserve precious capital, said company cuts or altogether eliminates its dividend, destroying dreams in the process (Double-whammy!).

As a result, I view any dividend yield as a "too good to be true" situation until I've fully vetted the company. It's a good default stance on any stock you are considering buying, but let's look at two examples:

Company

Dividend Yield

Nordic American Tanker (NYSE: NAT  )

14.3%

Qwest (NYSE: Q  )

7.1%

Source: Capital IQ, a division of Standard and Poor's.

The story behind the numbers
Wow -- in Nordic American Tanker, you get a 14% dividend on a company with no net debt and years of high-margin earnings.

But before you leap at Nordic American, know this: The company routinely pays out more in dividends than it earns. The company's financing strategy is to pay out earnings (and then some) as dividends and then go to the equity markets for more capital. Even though it was able to float an equity offering this year in a very rough climate, I don't think this is sustainable. At some point, you hit a snag and those equity markets close at the least opportune time.

Qwest's 7.1% yield isn't as eye-popping as Nordic American's, but that doesn't mean it's safe. Qwest has had declining sales for each of the past two years and sports a negative equity position (i.e., more liabilities than assets).

Meanwhile, its dividend-paying history isn't exactly robust. After merging with the dividend-paying US West in 2000, the combined entity ceased dividend payments in 2001 shortly after the tech bubble burst. Then it resumed payouts in 2008 ... just in time for the current credit crisis.

After paying out more than 80% of its earnings in 2008 (I'm usually uncomfortable with anything above 50%), I wouldn't be surprised if Qwest found it wise to pull a JPMorgan and cut its dividend to husband its capital resources.

Which dividends will survive?
It's darn hard to determine the sustainability of dividends in this environment. Due diligence is important in any environment, but it's especially important now when we can scoop up high-dividend plays that could form the core of our portfolios for decades to come.

The team at our Income Investor newsletter does their homework. They look for the most stable companies that pay the highest, most sustainable dividend yields. They've rated Kraft and its 4.6% yield a buy. But for new money, they rank seven sustainable dividend-paying stocks above Kraft. You can see all seven, and try out the entire service, for free with a 30-day trial. Click here to learn more -- there's no obligation to subscribe.

Anand Chokkavelu does not own shares of any company mentioned. Kraft Foods is a Motley Fool Income Investor recommendation. BB&T is a former Income Investor selection. The Fool has a disclosure policy.


Read/Post Comments (10) | Recommend This Article (51)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On May 07, 2009, at 8:11 PM, EasyE618 wrote:

    Part of the NAT payments are classified as "return of capital."

    Due to the black magic that is accounting, a direct comparison of dividends to earnings doesn't tell the story.

  • Report this Comment On May 07, 2009, at 8:11 PM, goatsnuff wrote:

    Ditto WACowboy, right on.

  • Report this Comment On May 07, 2009, at 8:46 PM, UKIAHED wrote:

    Um, WAcowboy - you may want to slow your roll just a bit. Your comment that the author of this piece is a "moron" seems a bit harsh and uncalled for. Your claim that NAT pays out "90% of it's earnings to the partners" is problematic.

    I took the following off of the company website:

    * The Board of Directors has declared a dividend of $0.88 per share in respect of 1Q09. For the last four quarters, including the dividend to be paid for 1Q09, a total of $4.96 has been declared in dividends, which represents 15.1% of the average daily share price over the same period.

    * Net income for 1Q09 was $0.46 per share based on the weighted average number of shares outstanding during the quarter, 37,424,291, compared to $0.78 per share for 1Q08.

    * On January 13, 2009, the Company completed an underwritten public offering of 3,450,000 common shares which strengthened its equity by more than $107 million in order to increase the capacity of the Company to make further accretive acquisitions.

    You will find this info at: http://www.nat.bm/IR/press_releases/1311047.html

    Last I checked my math - paying an $0.88 dividend on $0.46 income is a tad more than 90%...

    I would also reference the line about the offering of an additional 3,450,000 shares just this last January. Your claim that this does not dilute earnings may not float if some of this money goes to pay dividends in excess of earnings... just one more note on this - the tanker cost the company $57 million - the money raised was $107 million - we shall see if this is dilutive when the next ship is purchased - if they need to sell more stock - then some of the money raised may have been paid for items that did not increase shareholder value (read dividends and daily expenses).

    Just for fun I should also point out that the company does not have any partners to pay. This is a corporation that pays dividends - not a partnership which would pay distributions.

    In full disclosure - I own shares in NAT. I like the company and its policy of no debt - however - I would prefer to see them drop the dividend to less than income.

  • Report this Comment On May 07, 2009, at 8:54 PM, UKIAHED wrote:

    Well it seems like the comment that I was replying to from WAcowboy have been removed. I guess that name calling really is not tolerated by TMF. Glad to see it!

  • Report this Comment On May 07, 2009, at 10:38 PM, TMFBomb wrote:

    Thanks for the backup UKIAHED...even if I never did get to see the original comment from WAcowboy...

    -Anand

  • Report this Comment On May 07, 2009, at 11:47 PM, henryking54 wrote:

    Contrary to the author's claim, there have been PLENTY of Income Investor recommendations that have seen their dividends cut.

  • Report this Comment On May 08, 2009, at 12:54 PM, rob053 wrote:

    All right listen up go to page 6 of NAT's Qrtly report simple math here no magic. Take operating cash flow of $33,289,000 and divide it by shares outstanding and abra cadabra you get $.88 per share in dividend. If you leave out the items which are acceptable to delete for EPS purposes you end up with EPS of $.46 per share. Depretiation comes out of earnings but is added back into into operating cash. This why if you use EPS to guage this companies ability to pay a dividend you will miss the opportunity and simply be wrong.

  • Report this Comment On May 08, 2009, at 6:15 PM, TMFBomb wrote:

    rob053,

    What about capital expenditures?

    Also, wouldn't it be wise to retain more of that operating cash flow during a credit crunch?

    -A

  • Report this Comment On May 10, 2009, at 7:47 AM, scorpio1981 wrote:

    rob053 is correct, NAT pays out cashflow as dividends, EPS is a measure that contains intangible losses such as depreciation which don't actually affect the cash flow. In terms of capex NAT is well positioned to handle the costs of vessels delivered in 4q09 and 2q10, and generally will only issue shares at a time when the result of these issuances are accretive.

  • Report this Comment On May 13, 2009, at 4:31 PM, UKIAHED wrote:

    Well Rob053 and scorpio1981

    Looks like NAT may have paid a bit more in divs than they should have - must not have much left for capex - as far as I know - they issued shares in Jan to pay for the July ship - when is the new ship? All I can say is that this sale of stock will increase the cashflow for this quarter...

    Nordic American Tanker (NYSE: NAT) priced 4 million shares at $32 this morning, which is actually a 11% discount to where NAT closed yesterday. Nordic American Tanker said the money would be used for acquisitions and for general corporate purposes. NAT is trading down around 11% today to just above $32.

    Glad I sold at $36 (when I posted earlier) - I'll pick up more shares below $30.

Add your comment.

Sponsored Links

Leaked: Apple's Next Smart Device
(Warning, it may shock you)
The secret is out... experts are predicting 458 million of these types of devices will be sold per year. 1 hyper-growth company stands to rake in maximum profit - and it's NOT Apple. Show me Apple's new smart gizmo!

DocumentId: 894441, ~/Articles/ArticleHandler.aspx, 9/20/2014 4:20:40 PM

Report This Comment

Use this area to report a comment that you believe is in violation of the community guidelines. Our team will review the entry and take any appropriate action.

Sending report...


Advertisement