By
Dan Dzombak
|
More Articles
September 29, 2011
|
As a dividend investor, it pays to follow how much of a company's money goes toward funding its dividend. 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 EPS payout ratio, or dividends per share divided by earnings per share. The EPS payout ratio measures the percentage of earnings that go toward paying the dividend. A ratio greater than 80% is worrisome.
- 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 percent of free cash flow devoted toward paying the dividend. Again, a ratio greater than 80% could be a red flag.
Let's examine Apache (NYSE: APA ) and three of its peers.
|
Company
|
Yield
|
Interest Coverage
|
EPS Payout Ratio
|
FCF Payout Ratio
|
|
Apache
|
0.7%
|
32.4
|
6.0%
|
10%
|
|
Chesapeake Energy (NYSE: CHK )
|
1.3%
|
72.3
|
20.8%
|
NM
|
|
Devon Energy (NYSE: DVN )
|
1.2%
|
10.9
|
4.8%
|
NM
|
|
EOG Resources (NYSE: EOG )
|
0.9%
|
3.3
|
39.6%
|
NM
|
Source: Capital IQ, a division of Standard & Poor's. NM = not meaningful due to negative free cash flow.
With an interest coverage ratio of 32.4, Apache covers every $1 in interest expenses with more than $32 in operating earnings. Given that its EPS payout ratio and FCF payout ratio are below 10%, you shouldn't have to worry that Apache will need to cut its dividend anytime soon.
Another tool for better investing
Most investors don't keep tabs on their companies. That's a mistake. If you take the time to read past the headlines and crack a filing now and then, you're in a much better position to spot potential trouble early. We can help you keep tabs on your companies with My Watchlist, our free, personalized stock-tracking service.
RSS Headlines
Fool UK