By
Dan Dzombak
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More Articles
June 12, 2011
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Dividend investors know that it pays to follow how much of a company's money goes toward funding its payouts. A nice yield now won't matter much if the company can't keep making those payments going forward.
Here, we'll highlight a given company and its closest competitors to see just how safe their dividends are, with a little help from three crucial tools:
- The interest coverage ratio, or earnings before interest and taxes, divided by interest expense. The interest coverage ratio measures a company's ability to pay the interest on its debt. An interest coverage ratio less than 1.5 is questionable; a number less than 1 means that the company is not bringing in enough money to cover its interest expenses.
- The FCF payout ratio, or dividends per share divided by free cash flow per share. Earnings alone don't always paint a complete picture of a business' health. The FCF payout ratio measures the percentage of free cash flow devoted toward paying the dividend. Again, a ratio greater 80% could be a red flag.
Let's examine Deere (NYSE: DE ) and three of its peers.
|
Company
|
Yield
|
Interest Coverage
|
EPS Payout Ratio
|
FCF Payout Ratio
|
| Deere |
2.0% |
3.4 |
22.3% |
54.6% |
| Caterpillar (NYSE: CAT ) |
1.8% |
16.2 |
31.3% |
80.4% |
| Manitowoc (NYSE: MTW ) |
0.5% |
1.1 |
-10.3% |
6.7% |
| Toro (NYSE: TTC ) |
1.3% |
10.6 |
21.5% |
44.0% |
Source: Capital IQ, a division of Standard & Poor's.
With an interest coverage of 3.4, Deere covers every $1 in interest expenses with more than $3 in operating earnings. Given that its EPS payout ratio and FCF payout ratio are below 60%, you shouldn't have to worry that Deere will need to cut its dividend anytime soon.
Another tool for better investing
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